- Why IFCM
- Market Data
- For Business
All investments carry a certain level of risk and it would be unwise to assure the traders and investors that they can find completely risk-free investments. It is even unnecessary to stress that we invest to earn the highest returns preferably with the lowest possible risk. Yet, the truth is that our desires and reality are often incompatible. The higher the returns we want, the higher the risks we should take to achieve them. .
In order to have a deep understanding of the risk and return relationship we can refer to the Modern Portfolio Theory , developed by Harry Markowitz. In this regard, the theory provides a method to lower the risk of investment without lowering the return. The premise behind the theory is that the asset expected return is not the only parameter that must be considered when selecting assets for a portfolio investment. In order to have a low risk high return investment, it is rather important to carefully consider how each asset price changes against other asset prices.
How an asset price moves relative to another is measured by the correlation coefficient. The correlation coefficient does not help in identifying the assets – to find whether the latter has a high potential or not. But once the assets for the investment are identified, the correlation coefficients between them will help to see which investments tend to rise while others fall. This helps investors to manage their portfolios and keep the profit in balance.
Another important factor in lowering the investment risk is the smart usage of risk assessment and measurement techniques, like CAPM and Sharpe Ratio.
Nevertheless, smart asset allocation and risk measurement tools are not enough for building a low risk high return portfolio. The most fundamental factor is developing a comprehensive investment plan which is an essential component of becoming a successful investor. Most investors do not take time to do this, but if you want your investment to overcome any kind of unexpected event and tolerate pressure, you should have your own investment plan. The latter is the map to which you can refer whenever the market moves against you; it helps to keep in check the panic and emotions because of which most traders come out as losers. The psychological factor contains great risk, to lower which all is needed is to create a reliable plan and strictly stick to it.
Each factor that can more or less affect a profitable trade should be considered, whether it is a psychological factor, risk analysis tool or a well developed method. All the factors can work for you once you have your investment plan, take care to estimate the risk and return ratio of your portfolio and take measures to reach your investment goal.