The Finance Professor: Understanding Risk

This error is made by many naïve and lazy investors who do not conduct any fundamental analysis or do not perform periodic reviews of their investments. Do you remember the tech bubble several years ago? That was a textbook extrapolation error.

As you can see, there are several forms of risks involved in the investment process. While this overview was not exhaustive, I did explain many of the most prevalent risks that you will encounter.

In a future lesson, I will discuss how to manage risk. Until then, here is your homework:

1. Look closely at your investments and identify the forms of risk that you are currently exposed to.

2. Analyze how your investments have reacted in times of major financial crisis or stress (systemic risk).

3. Before you make your next investment, ascertain your risk appetite (risk tolerance). Remember that without risk there is no real reward. However, it is important to fully understand how you feel about the trade-off between risk and reward (risk/reward relationship).

As always, you can email me your homework and thoughts on the subjects covered in this or previous articles. I will compile the best ideas in a future module of TheStreet.com University.