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All financial investments carry some level of risk. Find out how you can help to protect your portfolio by measuring the risks you face and managing this exposure sensibly.
|Types of risk||Measuring risk||Ways to manage risk|
|What is risk?Market riskLiquidity risk||Assessing your riskThe investment risk pyramid||Attitude to riskExamine your risk v reward ratioAvoiding emotional trading|
When you trade, it’s very important to assess the level of risk you can realistically take on.
Once you've assessed the risk, you can then calculate the amount you want to put into your various investments. Different forms of investment have different levels of risk, so a balanced portfolio should resemble a pyramid in its shape.
After you’ve decided how much risk you can take on, you can use the investment risk pyramid to band your assets into streams according to their level of risk. The less risky products sit at the wider base of the pyramid, forming the basis – and bulk – of your portfolio.
Here’s a basic example of an investment risk portfolio.
The pyramid base
This is the largest portion of the pyramid, acting to support the rest. Here you might consider placing the largest proportion of your investment capital – in assets which are low in risk and have reliable returns.
In the middle
Build this section with your medium-risk investments, which provide a stable return but still have the potential to appreciate. These assets are more risky than those at the base of the pyramid, but should be relatively safe.
The pyramid peak
The summit of the pyramid consists of the highest-risk investments. The money you put into these investments should only be money that you could lose without serious financial repercussions.
Of course, the pyramid acts as a guide rather than a set of rules. Some investors take on more risk than others, so you’ll need to think carefully about your risk preference. Think about the amount of time and money you have to invest, and the level of return you want to achieve.
To learn more about ways to define your investment goals, see our developing a trading plan module.