Understanding Investment Risk
Risk and reward are inextricably linked and therefore the appropriate risk/reward balance has to be agreed at the outset before embarking on the management of your portfolio. All investments carry some degree of risk, with the general rule of thumb being the higher the risk the higher the potential gain or loss. To understand the relationship completely you must establish where your comfort level is with regard to your attitude to investment risk and capacity for loss.
Investing in the shares or bonds of individual companies exposes investors to both company specific (unsystematic) and stock market (systematic) risk. Investing in shares and/or bonds via a Collective Investment Scheme (e.g. Open Ended Investment Company (OEIC) or Investment Trust) that provides exposure to a broad spread of securities seeks to eliminate the greater of these two risks i.e. individual company risk. For this reason, our favoured approach in managing your portfolio is to place emphasis on Collective Investment Schemes rather than individual shares.
However, we also recognise that investing in individual shares can undoubtedly offer the potential for higher returns and we can also incorporate this into the management of your portfolio. In adopting this approach investors have to be aware of the increased risk presented by the lower level of diversification, likely higher level of volatility and increased risk to their capital versus a portfolio of collectives (funds). A successful compromise can often be achieved by adopting a hybrid approach to the management of portfolios where collectives form the larger core element of portfolio construction and a selection of individual shares comprise the smaller, higher risk/reward component.
Risk is also a function of time and therefore, in setting up and managing a portfolio, your time horizon for investment is an important factor. As a general rule we do not set up discretionary portfolios for clients whose intention is to invest for a period of less than 5 years.
The value of investments and the income from them can go down as well as up and you may not get back the amount invested.