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Understand associated risks before investing

by Ramaswamy P
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· BONDS: Investing in bonds – either directly or through mutual funds — is subject to two types of risks – CREDIT RISK and INTEREST RATE RISK. Since bonds are traded just like shares in the stock market, their market price can rise if there is a credit rating upgrade and fall if there is a downgrade. Similarly, the bonds’ price can appreciate if RBI reduces interest rates and vice versa. CURRENCY RISK also influences the price of bonds.

· SHARES: Stock market investors are a growing minority. Many are aware of CAPITAL RISK and have been avoiding it for long. But with growing access to information and technology, this category is gaining traction. But capital risk arises due to MARKET RISK – sector-specific or company-specific. While an event like COVID-19 could have done damage to many sectors, industries like Pharma, Telecom and Fast Moving Consumer Goods have benefited hugely. Hence, unlike other investment risks, MARKET RISKS can act as TAILWIND to some stocks and HEADWIND to others. Apart from geopolitical events, Blackswan events and monsoon progress can influence various industries.

· EQUITY MUTUAL FUNDS: Mutual funds are investment vehicles which pool money from investors, invest and manage them on their behalf in various securities with professional investment managers. With their wide knowledge and experience, these fund managers make timely investment decisions to turn odds in their favour. Apart from MARKET RISKS mentioned above, there is a risk of FUND MANAGEMENT. If the fund manager resigns, and he happened to be a star fund manager, there is every possibility that these funds would underperform unless the investment management has been process-driven. While there are many do-it-yourself investors, they fail to keep track of these changes and realise the damage only in hindsight.

· SECURITY RISK: Last but not the least is the risk associated with safely holding to assets like gold. While the retail participation is in physical gold, many of them have stashed it away in lockers. According to Section 152 of the Indian Contract Act, a bank is not responsible for any loss or damage to the content of a locker. That sums up the security risk every one of us carry.

· REGULATORY RISK: When everything would have been going good, regulatory interventions can result in short-term risk. Stock market regulations are a classical example. This forces the participants to realign to the new rules, which can destabilise our financial position or portfolio valuation.

· CONTINGENCY RISK: Till the going is good, the good gets going. We never felt the need for contingency till the recent lockdowns. While many of us would have had flourishing businesses and rewarding careers, with recessionary economic situations, many of these individuals have realised the vulnerability of personal cash flows. With statutory liabilities like GST, PFs, ESIs, many have been scrambling for money. It is high time that a contingency fund is created and we do not expect big returns on this funds – since it is meant for liquidation any time.

· LONGEVITY RISK: Everybody wants to go to heaven, but nobody wants to die. With advancements in the field of medicine and the basic instinct to live longer, everyone needs to plan investments that would last for their lifetime. Indians are grossly unplanned for their retired life. But it is a real risk that many of us could be facing in the years to come.

EYES SEE WHAT THE MIND IS PREPARED TO COMPREHEND. We assume certain investment options to be safe and certain others to be risky. But, in reality, every investment product comes with its own set of pros and cons. The first step to investment success is to understand the associated risks before investing since RISK COMES FROM NOT KNOWING WHAT WE ARE DOING.

(Concluding part of Understanding Risk)

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