Putting Financial Risks into Perspective

Thursday, March 27 at 02:35 PM
Category: Personal Finance

It seems changes in the financial markets happen more often, and market swings are larger than they were a few years ago. Risk is the term often associated with changes in values of stock prices and interest rates. But, there are also other types of risk. Understanding various risks can help you determine the saving and investment strategies that are right for you.

Three Types of Risk

Risk of loss. When you buy something and sell it at a lower value you have incurred a loss.

Fluctuation risk. Change in the values of investments while held is another common risk. Handling daily changes in stock and bond values can be stressful.

Inflation risk. The rate of inflation, which hit double digits in 1979 and 1980, has declined since then and has recently been about 3 percent. While not large, at a 3 percent inflation rate an item that cost $100 in 2013 will cost almost $116 in 2018 and $134 in 2023.

The Consumer Price Index (CPI) is the most widely watched measure of inflation. The government computes this index monthly by measuring changes in the prices of over 90,000 items. The CPI is reported each month. The annual change is used for determining adjustments in Social Security payments, income tax brackets and many other payments and charges.

Dealing With Risk

There are as many different perspectives on risk tolerance as there are types of investment strategies. Here are some things to keep in mind as you deal with risk.

Use common sense. "When something appears too good to be true, it probably is." Don't believe everything you hear and read. Others have opinions of how you should handle your finances, but remember, you have to live with the consequences of whatever you choose. Have a healthy dose of skepticism when people offer suggestions, especially if they don’t practice their own suggestions. Do your research and find a qualified financial advisor you can trust.

Diversification. "Don't put all your eggs in one basket." Spreading your assets into the appropriate categories of equity, fixed income and liquid investments can reduce your overall risk and provide a logical guide based on your time-horizons and risk tolerance.

Long-term perspective. "Most people don't plan to fail, they fail to plan." Establish your lifelong objectives and follow a strategy to reach them. With the big picture in mind you’re less likely to make a rash decision to change your asset allocation when you face your first market decline.

As you map your overall financial strategy, make sure the combination of risks in your business, your job and your personal finances are appropriately balanced with the potential for overall return.

Tags: Financial Education, Investing, Savings
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