There are risks in every investment.
Along with the risks, there is also an expected return.
The risks of an investment could mean the possibility of losing some of the capital otherwise known as Value at Risk (VAR).
Risks can also be referred to as the uncertainty that the expected return (Re) is not achieved or the actual return (Ra) is lower than Re.
Along with the risks, there is also an expected return.
The risks of an investment could mean the possibility of losing some of the capital otherwise known as Value at Risk (VAR).
Risks can also be referred to as the uncertainty that the expected return (Re) is not achieved or the actual return (Ra) is lower than Re.
Investment is a calculated bet
In view of the uncertainty involved, whenever an investment is made, the investment can be considered as a bet.
Although the term “bet” sounds very much like gambling, but unlike gambling, investment is not entirely based on pure luck.
Even in gambling, be it casino or number forecasting games, there is the probability of outcome and prize payout.
Simple probability computations based on payout rates show that the final payout is always less than the betted amount. As such, when wagering in these games, the returns are always negative.
In the Case of Investment
In the case of investment, the bet refers more towards the uncertainty of the return, even though the risk is a calculated one after having taken into consideration the potential loss as well as the potential return that can be derived from such a bet.
When we refer to an investment as a bet, we simply mean that an investment has a risk of losing money and that is a fact.
Each investment should be seen separately and independently.
An array of investments makes a portfolio of calculated bets.
Each investment should be seen separately and independently.
An array of investments makes a portfolio of calculated bets.
Mental calculation
Many investors use mental calculations to decide whether an investment is worth considering or not.
Experienced investors will use his or her past knowledge to make a decision.
Based on this valuable skill, a quick response can be made without performing much computation.
As such, experience is very important, and it helps a lot in making quick decisions — especially during such periods of volatility.
However, for those who have limited experience, additional homework is needed to calculate and determine the return and risk trade-off.
In many cases, the expected returns and probabilities cannot be determined easily, however, systematic procedures in making return and risk computations can still provide the lead.
In many cases, the expected returns and probabilities cannot be determined easily, however, systematic procedures in making return and risk computations can still provide the lead.
This article appeared in The Edge Financial Daily, March 30, 2009.
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