When it comes to making financial decisions, setting goals and planning your financial future, it’s vital to consider the risks to your income, capital and investments.
From illness and injury to retrenchment and early retirement, there’s no way to know how life may wreck havoc on your best laid plans. These unexpected events also have the potential to ruin your financial future if their impact isn’t carefully planned for – or their risks minimised.
It’s important to protect what you build
Equally as important as creating wealth is protecting it. Risk management works by identifying, evaluating and prioritising potential risks followed by carefully considered strategies to help minimise those risks. At Johnston Grocke, we’ll work with you to identify which personal risk management strategies will provide you with the peace of mind that your situation demands.
Investment and risk management
Risk management in personal financial planning will leverage your investment decisions. Investment risk has a number of different definitions but it is commonly thought of in three ways:
- The probability of losing your initial investment. For example, there’s a risk that the company you invest in could be poorly managed and you could lose your total investment.
- The probability of not receiving your expected growth return. For example, there’s a risk that the share price of the company you invest in could go down to $8, rather than up to $20 as expected.
- The probability of not receiving your expected income return. For example, there’s a risk that the company you invest in may only pay a dividend of 15 cents, instead of the expected dividend of 40 cents.
A low risk investment has a low probability that these events will occur. For example, a fixed term deposit with a bank is low risk. From the start, you generally know how much income you’ll receive (that is the interest rate) and that you’ll get your initial investment back at the end. Shares and property investments are considered to be higher risk investments as there is greater probability of capital loss or of not getting the returns you expect.
Risk and return always go together
While everyone would like to maximise return and minimise risk, and have a return every year of 20% with no chance of investments falling in value, the reality is that these investments don’t exist. Studies how that, in general, people are not averse to risk but rather they have an aversion to loss. Put simply, this means that people are often more sensitive to losses incurred than they are to gains received.