Risk is a really intimidating word. It immediately makes us think of the worst-case scenario where EVERYTHING goes wrong. When it comes to our money, that’s enough to make us keep all of our cash under our beds!
In reality, risk is something that we deal with all day everyday all day. There is risk associated with taking a new job, walking down the street and even ordering food at a restaurant. Merriam-Webster defines risk as the possibility of loss or injury. Luckily, when it comes to investing, we only have to worry about loss.
There are risks involved with everything that we do and many times we get to decide if it’s worth it for us to take on a certain risk or not. In the same way, we want to gather the information we need to assess the risk of putting our money in certain investments. If we don’t even understand what the risks are, we can’t make a decision that fits with our goals and lifestyle and it probably will feel pretty scary!
Before you read about some of the risks associated with the building blocks of investing, there is some very good news! There are ways to mitigate and even eliminate a bunch of these risks . I’ll talk about these later so stayed tuned!
CASH: Physical cash or cash in a savings or checking account doesn’t carry much risk. Your cash will grow at whatever interest rate your account promises and it won’t decrease in amount. One of the biggest risks with holding cash is inflation. Inflation means an increase in prices of goods and services over a certain period of time. If prices go up faster than your cash is growing, each dollar you have will have less buying power. The actual amount of cash you have won’t decrease but what you will be able to purchase with that cash will.
STOCKS: When it comes to stock or equity investments, the risk of loss comes in a different form. The actual value of your investment can decrease. The decrease in your stock investments can be as little as a couple of cents for only a couple of minutes or you can lose the entire value permanently if the company goes out of business. While the latter is much more rare, the value of your investment will fluctuate based on the economy, how the company is doing, the general market and many other factors.
BONDS: Bonds typically fall somewhere between cash and stocks on the risk scale. A bond is an I.O.U. so when you lend someone your money, you expect to receive the full amount back plus interest payments. Just because bonds are considered fixed income doesn’t mean that they are risk-free. If the company, government or whoever you lent your money to is unable to pay you back, you can lose some to all of your principal. Depending on when they realize that they are unable to pay, you may not receive your interest payments either.