The Spectrum of Risk and Reward in Investment

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Most investors, regardless of experience, understand that there is an inverse relationship between risk and reward in investment. There is actually no risk-proof investment. Even if you sew up cash into your mattress, your buying power will decrease as inflation increases. In order to maintain the real value of your money, you need to invest it in one way or another. But how much risk are you comfortable with? And how much payoff do you need to see in your investments?

Risk and reward are a spectrum, with conservative low-risk low-growth investments on one end and high-risk high-growth investments on the other. We’ll map out a few of these so you can see where your needs and goals fit in.

High Reward – High Risk. There are a branch of investment opportunities based on day trading and the slightest fluctuations of markets and financial entities. Of these, spread betting is the most popular, with investors wagering that a market will grow or shrink in a given window of time. If they are right, and the market grows (or shrinks) beyond a certain point, they receive a payout according to how much above or below the point the market moved. There is huge opportunity for big gains and losses here, because investments see payoff so quickly, sometimes in only minutes or hours. No investor will want to put a huge percentage of his or her portfolio into spread bets, but a reasonable allocation can see enormous growth very quickly.

Individual Stocks and Managed Funds. When you play individual stocks, you are trying to beat the market. On average, the stock market grows about 9% every year, a number you would likely hit if you invested in index funds. But lots of money managers set out to do better, and generally about 80% of them fail. But there are those, like Warren Buffett’s Berkshire Hathaway, that have performed better for more than 45 year running. This is risky indeed, as some actively managed funds fall hard, but if you have the stomach for it, you could pick a winner.

Lowest Risk – Index Funds With Stocks and Bonds. This is one of the lowest risk allocations of your money that you can make, especially if you put a lot of your money in bonds. The US has never defaulted on bond payments in its history, making these among the most stable of all investments. Stocks are trickier, following the fluctuations of the larger stock market. Some years are way up, others way down. But overall, the market has a trajectory of growth, again about 9% a year. If you are in it for the long haul, you will probably see this much growth in your money, over the lifetime of your investment.

Investment is inherently risky. But if you do not invest, your money will lose value anyway. You’re damned if you don’t, but not necessarily if you do. By picking a smart mix of risk and security, you’re sure to see growth on your investments and enjoy a long career as an investor.

Posted in: Investments