Risk Involved In Investment And Portfolio Management Essay

Risk Involved In Investment And Portfolio Management - Essay Example It is natural because investors perceive much risk to be involved in investments such as bonds and stocks they are willing to expect more return on them. Stocks and bonds are considered more risky because they involve several elements that may change with time due to uncontrollable factors such as price, interest rates, inflation etc. The most important thing with respect to any investment is the level of certainty with respect to the recovery of principal amount invested. Stocks and bonds are different with regard to risks that are confronted by investors from time to time. Stocks or bonds are both issued by corporations at different times to raise long-term finance for their business but their treatment is different. Stock is regarded as equity capital whereas bonds are considered as borrowed capital or external funds. Stock investors become owners of the company and bondholders become creditors. Owners i.e., stockholders therefore perceive more risks pertaining to the recovery of their principal amount because in case if company defaults they would be given less priority over bondholders on the company's assets. Gibson (2000, p58) elaborates that, "because the bondholders and other creditors of a corporation have a prior claim to the corporation's revenues and assets, common stock shareholders are said to have a residual ownership interest". Also the returns to stockholders are not guaranteed but bondholders are entitled to receive a fixed rate of guaranteed return. Therefore, in this view, investment in stock is riskier than bonds. There are various aspects that determine the risks involved in investing into corporate bonds and securities. Bodie (1995, p21) says that, "with real bonds, the investor...This paper provides an overall introduction to risk and various elements that add to the risk associated with a certain type of investment. This paper also illuminates the effectiveness of portfolio management to eliminate the risks that are confronted by investors while maximising the returns on investment. In investment management, risk is often equated with the uncertainty (variability or standard deviation) of possible returns around the expected return. Risk is the capability of pointing out possible outcomes and their probabilities without being sure as to which will happen. It is the extent and possibility to which expected returns vary in response to several factors. Investors block their money in certain assets such as stock and securities as well as liabilities such as bonds in anticipation of certain return with less exposure to risk factors. Different types of investments contain different levels of risk that also correspond to the return expected by investors. Investments such as government bonds and securities bear no risk to the investors therefore provides less return to the investors. Bonds are categorised as liabilities and therefore bear a legal guarantee for investors to receive their invested amount even if the company goes bankrupt. There are other factors also that make investment in bonds and shares risky such as interests rates and inflation. An investor can greatly minimise the risks associated with investments by means of portfolio management.