Investment risk — what does it entail and how to minimize it?

The term “risk” has a negative connotation and most people (especially when it comes to finance) want nothing to do with it. (Of course.) However, in the world of investing, risk is an inseparable and even coveted part of the investment process. This so-called investment risk are divided according to the levels, namely:

• low (for example, in the case of government bonds in economically and geopolitically stable countries),
• taller (for example, ETFs)
• high (when investing in individual stocks or commodities),
• extreme (when making speculative investments, for example, in Bitcoin or alternative cryptocurrencies).
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Definition of risk management

Identification, analysis and acceptance or decision to mitigate the potential loss of invested finances with respect to investment objectives.

For investing, higher risk can mean a higher potential return. Thus, high risk is not necessarily bad or undesirable if an investor consciously chooses to take it (for example, by putting 5% of his investment portfolio in a speculative investment). But it also depends on its investment objectives, their severity and their long-term.
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What are the basic types of risk and how you can manage them at Investown

Market risk

Market risk depends on the macroeconomic environment. Sources of market risk include, for example, recessions, political upheavals, drastic changes in interest rates, natural disasters, terrorist attacks and other influences. Systematic or market risk tends to affect the entire market at the same time and manifests itself in fluctuations in market prices — so-called volatility.

How to work with market risk on Investown

Market risk does not play a big role when investing on Investown, because you are not investing in the firm as such (you are not buying a stake), but investing in financing (basically, you are lending to the company through Investown). Thus, the value of the company does not affect your return. The latter is fixed and given by interest on the loan.

The average investment return on Investown currently outperforms those of other assets such as gold or equities.

Crowdfunding investments are a strategic way to diversify a portfolio and protect it from market risk.

Credit risk

When investing in loans, the biggest risk is that the borrower will become insolvent and you as an investor will not receive profits or, worse, lose the entire original investment. Therefore, investing in specific companies requires sophisticated and complex procedures and precisely executed so-called so-called. due diligence (accounting, tax, economic and other audits of the company).

How to work with credit risk on Investown

All companies whose projects can be invested in at Investown are vetted by our risk management department with many years of expertise in the financial and construction sectors. The vetting process has several stages, and only vetted, quality projects reach the platform.

In addition, each investment is secured by real estate — if by chance the partner becomes insolvent, the property will be sold and the original investment paid out. Therefore, for each investment opportunity, investors see the LTV (loan to value) value, that is, the ratio of the value of the loan to the value of the property. The latter must not exceed 80%, thereby minimizing the risk of a possible decrease in the price of the property.

Currency risk

If an investor invests in different currencies (for example, dollars or euros), there is a risk of depreciation of the investment based on fluctuations in the exchange rate against its domestic currency.

How to work with currency risk on Investown

There is also no currency risk at Investown, as all investments and payments of profits take place in Czech crowns.

Low liquidity risk

Market liquidity refers to the speed and ease of the process of turning an investment into cash that you can dispose of. The risk of low liquidity is especially important when you invest in the short term and know that in the near future you will withdraw the investment (for example, to build a house).

• The most liquid investments currently include, for example, publicly traded stocks, which you can sell through online brokers virtually instantly.
• Little liquid investments are then, for example, works of art, for which sometimes you have to look for a buyer for a long time.
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How to minimize investment risk

Diversify

The most basic and effective risk minimization strategy is diversification. A well-diversified portfolio consists of different types of assets in different regions and business sectors. Part of such a portfolio includes both riskier assets and more conservative products.

Remember that diversification does not ensure zero risk or the highest possible returns, but it minimizes the risk of loss. On the basics of portfolio diversification, you can read our blog article.

Invest long term and set goals

If you invest for the long term, with an investment horizon of 10 years or more, your chances of a positive return increase dramatically. Fluctuations in the markets, short-term elevated inflation or unstable geopolitical situation can be ignored with relative peace of mind, since your focus is only on the long-term outcome (in 10, but ideally in 20 or 30 years).

The importance of the investment horizon is well illustrated, for example, by the development of the well-known S&P 500 index.

• If you invested in it in early 2007 and withdrew your investment in December 2008, you would have lost approximately 57% of the amount invested.
• If you had your money invested in an index and only withdrawn it at the end of 2019, you would have appreciated your investment more than double.

What to take from it? Rather than daily or monthly returns, it is strategic to pursue a long-term investment horizon. Focus on the growth potential of your investments, set investment goals and use compound interest (reinvest returns). In the world of finance, strategy triumphs over intuition.