THE INTERACTIVE BLOG

DEFINING LOW AND HIGH RISK INVESTMENT

So you may have heard of risk investment and its role to play in your forex undertakings, but do you truly understand what is meant by risk? I get that we all understand what risk is, the potential for a circumstance to have a negative outcome, but in the context of the forex market it’s something a little more specific than you might imagine. Seeing how risk management and investment go together like rice and soya sauce, many people may think that risk is something clearly definable or quantifiable but unfortunately that is just not the case. In fact, as crazy as it may sound, within forex no scholar or broker can truly say they know what risk investment is; banking on this knowledge is just not realistic.

The Difficulty of Defining Risk

Most scholars have attempted to use volatility as a substitute for risk and to a certain degree this is entirely logical, but volatility is flawed as a measure of high or low risk investment. Volatility is the measure of difference an amount can gain or lose given a period of time. While volatility accurately can measure these differences, the true differential of it from risk management is that it has no influence or effect on the outcome and therefore cannot be defined as the risk. Risk is better thought of as a definite probability that an asset will experience a permanent loss of value or function; it sounds philosophical, but risk is largely defined by the expectation a broker has on his returns.

Understanding the Risks

Once the concept of the above sinks in, understanding the true nature of low and high risk investment becomes that little bit easier to comprehend. A high risk investment deals with two possible outcomes; first if there is a great chance of underperformance or second if there is a contextually small chance of a drastic loss – both can be considered a high risk. In the first example, it relies on the subjective view of an individual as to what is thought of as risky; a 50/50 chance may be risky to myself, but another broker may find that he can afford to take a 50% knock and therefore doesn’t consider it risk. In the second example, the risks are something we may fail to realise fully; return on investment of the risk perhaps blinds us from the bigger picture. In the second example, for use in foreign risk investment or otherwise, flying is safer than travelling since you’re less likely to have an incident; however should an incident occur you have a higher chance of a fatality than with a car accident which is more likely to happen.
In other words if you choose to get involved with an investment that seems sound but should things go gone devastate your stock, then you are partaking in a risk investment that should be considered fully before committing. Hopefully these examples will illustrate what risk is better.
Eugene Calvini is a writer and forex market enthusiast; starting with a humble forex demo account he has gone on to gather perspective and information he feels may be useful to share.