Partitioning Risk
Risk has many subsets.
Total risk is all-inclusive and refers to the overall variability of the returns of a financial asset.
The two components of total risk are
· Un-diversifiable risk (also called systematic risk or market risk) and
· diversifiable risk (also called unsystematic risk).
Undiversifiable risk is that which must be borne by virtue of being in the market. This risk arises from systematic factors that affect all securities. We quantify systematic risk by beta.
Subsets of Risks:
Business risk
Financial risk
Purchasing power risk
Interest rate risk
Foreign exchange risk
Political risk
Social risk
Risk and the Income Statement
Sales: Foreign exchange risk, Social risk, Business risk
Tax: Political risk
Dividends: Political risk
Contribution to Retained Earnings: Financial risk
Risk and the Balance Sheet
Total Assets
Financial assets: Interest rate risk, default risk, systematic and unsystematic risk, foreign exchange risk.
Real assets: Foreign exchange risk
Total Liabilities and Net Worth
Liabilities: Interest rate risk, foreign exchange risk
Net worth: Purchasing power risk
Keep INVESTING Simple and Safe (KISS) ****Investment Philosophy, Strategy and various Valuation Methods**** The same forces that bring risk into investing in the stock market also make possible the large gains many investors enjoy. It’s true that the fluctuations in the market make for losses as well as gains but if you have a proven strategy and stick with it over the long term you will be a winner!****Warren Buffett: Rule No. 1 - Never lose money. Rule No. 2 - Never forget Rule No. 1.
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