Risk - as it Relates to Investing
We aren't experts at risk, but this is how we see things. The main types of risk are political risk, the risk of volatility, and risk related to the quality of investments.
There is political risk in all countries, because as governments change, their policies change. This can affect the price of investments quite dramatically, especially if the government is a socialist government, or a non-democratic government.
Stock markets are often volatile due to greed and fear. Greed can drive stocks to unrealistic highs, and fear can drive them to unrealistic lows.
Interest rates can also cause volatility in stocks and bonds.
Another risk is the quality of the company behind the stocks. Developed countries have securities laws which require companies to provide audited financial reports annually. These reports are usually reliable. When investing in developing countries, the reports may not always be reliable.
When you are buying bonds, their rate of return is related to their risk. There are bond rating agencies that rate the bonds from AAA to junk. As the quality of the bond decreases, the rate of return increases. The main risk with bonds is that their returns are not as good as stocks, and you may end up outliving your money. This is much less likely with stocks or ETFs.
As stocks go up you don't usually hear very much about it, but when they go down, it is often on the front page of the newspaper. This is because stocks usually slowly rise, but occasionally they go down very quickly. Every day there is a financial crisis happening somewhere in the world. If you just pay attention to all the bad news, you would never invest in stocks. Some of the financial crises include:
The following list shows how countries and economic sectors are usually rated, from low risk to high risk. The positions in the list will usually change as countries either falter or prosper, and as economic sectors are re-evaluated by analysts.
The risk of an ETF (VGK, VPL or VWO) is less than the risk of the individual countries it represents. See our article on recommended stocks (ETFs) for inside or outside of your RRSPs.
How to lessen risk:
Despite all the financial crises that occur, you can see by our article on historic returns on stock markets and other investments that by buying quality investments and holding them for a long time, you can make a good return on your investments.
See also the article on currency risk.
Tip: Buy quality investments and hold them for a long time.
Revised: April 10, 2016
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