What is investment risk?
Investment risk usually refers to the risk that the value of your investments may fall as well as rise; this is also known as volatility. But there are other kinds of equally important risk:
- The value of your investments may be eroded by inflation. For example if you have £100 and apples are worth £1 you can buy 100 apples. If prices rise so that each apple is now costs £1.20, now you can only afford 83 apples. Therefore the amount that your money can buy has been reduced by inflation.
- The amount of regular income you can buy (annuity rates) may change. As an example, £10,000 may be able to buy a regular income of £500 a year now but it could buy more or less than this if annuity rates change.
The key to successful investment is balancing these different kinds of risk against each other.
How to balance risk
Over time, you may choose to balance your investment risk differently according to your age and attitude to risk.
Earlier in your career, it may be appropriate to accept a higher level of short-term volatility (or risk) to reap the potential reward of higher long-term growth. But as you approach retirement you may wish to protect the value of your investments and minimise the risk of their value going down.