Allow me to be completely honest with you. Investing in the stock market is a high-risk proposition. You are entirely incorrect if you believe that investing in stocks is as safe as cash or a bank deposit.
Although, historically, stock market investments have outperformed gold, bonds, mutual funds, and other possibilities. However, the market’s return is not assured, and you could lose all of your money in stocks. Now, don’t get me wrong: I’m not trying to scare you. But all I’m doing is emphasizing the point. In the stock market, almost 90% of people lose money. Why? Because they are unaware of the various sorts of risk associated with stocks.
When a newbie learns to swim, he understands that diving into deep water without sufficient training is perilous. He is aware that he may be dragged into the water. When it comes to the stock market, however, people just ignore the various types of dangers involved and are eager to jump in right away.
Nonetheless, if you are aware of the danger, you are more likely to be able to manage it or at the very least have a contingency plan. That’s why, in this essay, I’ll go through the seven different forms of risk that you should be aware of while investing in stocks. Also, please read the article all the way to the conclusion because there is a bonus at the end.
7 Different Types of Risk Involved in Stocks
Here are seven basic types of Risk Involved in Stocks :
1. Market Risk
This is also known as systemic risk, and it is dependent on the market’s day-to-day price fluctuations. The Sensex and Nifty market indexes fluctuate throughout the day. And it can often have an impact on a stock’s returns. For example, if the market is declining at the same time, it may cause the values of even solid equities to fall. Furthermore, market risks are larger in the short term than in the long run.
2. Business Risks
The firm is the source of the second form of stock risk. If the business isn’t doing well, this risk can grow. The failure of management, bad quarterly performance, or your misjudgment in selecting a company are all examples of business risks. Diversification, on the other hand, can help to lessen this risk. When compared to five similar businesses, the likelihood of one failing is ‘high.’ As a result, instead of holding one stock in your portfolio, you can lower your business risk by keeping five.
3. Liquidity Concerns
You should always evaluate the company’s solvency before investing in a stock. Companies with a lot of debt may have a hard time paying their expenses. They may even reduce dividends or, in the worst-case scenario, go bankrupt. Liquidity hazards are present in any firm.
4. Taxability Risks
Because the government adjusts taxes on a regular basis, taxes in the industry where you invested may rise or fall. The stock price may be affected by changes in taxation. Furthermore, because a certain industries are taxed more heavily than others, their net profit after tax may be lower. Furthermore, because taxation is controlled by the government, management and investors have limited options.
5. Interest Rate Risk
Interest rates on the open market, often known as the worldwide market, fluctuate from time to time. And, depending on the direction in which the interest rate is moving, this might have a favorable or negative impact on the stock market. When interest rates are high, for example, a corporation may find it difficult to borrow money (at high rates). Furthermore, if interest rates rise, the bond market falls, which may have an impact on corporate bonds.
6. Regulatory Risks
There are a variety of rules in place in various businesses, which must also be considered when it comes to the risk involved with stocks. Cigarettes, telecommunications, alcohol, pharmaceuticals, and a few other businesses, for example, are heavily regulated industries. If a pharmaceutical business loses any of its drug production rights/permissions due to a regulatory effect, the company’s earnings and, as a result, the stock price will suffer.
7. Inflationary Risks
With an Inflation rises, the price of raw materials rises as well, affecting the cost of production. Inflationary risk has a significant impact on many enterprises dealing in commodities such as oil, soya bean, and others.
Furthermore, the inflation rate is excessively high in a few industries. Consider the fields of education and healthcare. The cost of tuition at schools and universities is rapidly growing. Although it may appear to be beneficial in the short term, these industries will profit from the elevated pricing. However, in the long run, it can have a negative impact on client retention.
Bonus: A Few More Dangers
Aside from the seven risks stated above, there are a few more risks to be aware of while investing in stocks.
1. Social and political risk: Social and political risks pose a significant threat to many businesses. For example, Tata Motors relocated its Tata-Nano plant from West Bengal to Sanand, Gujarat, due to political considerations, which cost the company a significant amount of money.
2. Credit Risk: The possibility that the bond’s issuer would be unable to pay the interest or repay the principal at maturity, making it difficult to acquire or sell products.
3. FII/DII investments: The risk associated with equities can also be measured by the amount of money invested by significant players. If foreign direct investment/domestic investment in a company declines, and investors begin to sell their stock, the stock price of that company may suffer.
4. Currency and currency rate risk: Many organizations doing business across borders or those involved in import/export may experience difficulties due to rising dollar prices. As a result, currency and exchange rate swings may put these businesses at danger.
Stocks come with a slew of potential dangers. Nonetheless, if you grasp the fundamental concept of stock risk, you can manage the amount of risk you wish to accept. Furthermore, the danger is lessened over time. In the long run, a short-term fluctuation will not harm your portfolio. Furthermore, while investing for a period of 10-15 years, the majority of short-term market swings, political, and societal concerns are eliminated. Yes, in general!! In the stock market, there are a variety of hazards. Risk-takers, on the other hand, are rewarded in the stock market if they take “smart” measured risks. That is all there is to it. I hope you found this article helpful. Please share your thoughts on which stock risk is the most damaging to your portfolio in the comments section below.