Tom
Head of Content

Risk in investing explained

Risk is inherent to investing. Generally the higher the returns the greater the risk to your money. We explain what exactly risk is, and how to understand it.

What is risk?

In investing ‘risk’ simply means the chance that your investment will decrease in value and you will end up with less money than you initially invested.

Generally there is a close relationship between risk and return, with higher returns coming with higher risk. 

We have named our funds to give an indication of their risk/return profile, as well as a risk rating and their past performance. You should consider all this information carefully and your appetite for risk before buying into a fund. 

Remember that as a rule you should never invest money you need for necessary expenses, and you should be prepared to lose all the money you invest (though this is unlikely with a well diversified investment fund). 

Imagine you have the choice of investing in a new gold mine, or an established gold mine.

The established gold mine has found gold deposits and has a proven track record of sending out a steady supply of gold.

The new gold mine is still exploring for gold deposits and has not yet proven they can supply any gold.

The established mine will sell shares at a higher price, as investors are certain the mine can reliably supply gold. As an established mine, they still grow but at a relatively slower rate than a new mine. There is a low risk of losing your investment, but also a low return.

The new gold mine will sell shares at a lower price, as investors don’t know if the mine will supply gold. However, if the new mine strikes gold, the shares will rapidly increase in value and investors will see a healthy return.

But, if the new mine doesn't find any gold, they will close the mine and investors will lose all their money. So there is a chance of a high return, but also a high risk you’ll lose your investment.

What an investment fund would do, is spread your money across both mines (and several other mines too). Meaning you are less exposed to the new mine failing to find gold, or dependent on low returns from a slowly growing older mine.

Of course some funds would focus entirely on new gold mines (high risk), and others just on established gold mines (low risk), this is why different funds have different risk ratings.

 

What is a risk rating? / What is “a Synthetic Risk & Reward Indicator (SRRI)”?

We use an industry standard risk rating on all funds. Known in industry jargon as a Synthetic Risk and Reward Indicator (SRRI).

It’s a number on a scale of 1-7, the higher it is, the riskier the fund is considered to be. But remember there is typically a direct relationship between risk and reward, the higher the risk, the higher the reward. 

How are Chip’s risk ratings calculated? 

We don’t calculate the risk rating ourselves, we get the risk rating from BlackRock and it is based on the ‘volatility’ of the assets in the fund (i.e. how likely they’ll increase or decrease in value). 

With the BlackRock Consensus funds this is based on the split between equities and bonds. Equities are the high-return/high-risk investments in company stocks and shares, and bonds are the stable investments with governments and other reliable institutions. 

We explain more about equities and bonds above in the ‘investment basics’ section, but as a rule, the higher the percentage of equities vs bonds in a fund, the higher the risk rating is. 

Why has my account balance dropped?

Your account balance will have dropped because the investments that make up the fund have decreased in value due to changes in the market, and so your fund units have also dropped in value. 

It’s nothing to panic about and this does happen regularly with investing. It is very unlikely you will see a steady and consistent upwards growth trend, your growth will jump up and down in a bumpy line, but the overall trend should be going up. 

Remember investing in a fund is not single share trading and it is not the same as playing the stock market, take a long term view, zoom out and consider how things will look over a 5-10 year period. 

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