Understanding Risk Control

Depending on our age and other factors, there are many things that determine how much risk we can take

With every decision we take in life, we are usually exposed to various levels and elements of risk. The same is true in the stock market. Depending on our age and other factors, there are many things that determine how much risk we can take.

Consequently, there have to be systems in place to reduce the potential impact of the risk or prevent them from happening in the first place.

This is where risk control comes in. It refers to the various methods companies or individuals carry out actions to reduce or eliminate threats to their investments.

It requires that different risk areas are properly assessed and duly prepared for. It seeks to eliminate various issues that could interfere or impede with a company’s or an investor’s expected returns on investment.

These five simple methods are different ways it can be done.

Avoid the risk:

The first form of risk control is complete avoidance of it. In other words, if a thing has the chances of causing loss, you completely avoid it. Investors whose risk thresholds are low often avoid risks ab initio.

This is why there are investment options that will guarantee the principal of the investor. Of course, this does not ward against the risk of inflation so it has its own risks as well.

Cut the loss (Stop losses)

Another method of risk control is to put systems in place to reduce the overall effect of losses. One of such methods is the stop loss order investors place to ensure that losses don’t go beyond a specified mark.

For example, if you had invested in a stock at the share price of N10, you can put a stop loss order at N7 per share, stating that the security should be sold immediately it falls low to the point of N7.

Loss reduction

The idea behind loss reduction is that the risk event to cause the loss has already taken place. In other words, it is tied to your reaction after loss has occurred.

For example, as opposed to selling your N10 per share investment after waiting too long in the drop to say N3 per share, a smarter move is to reassess the company’s fundamentals.

If it still has the potential to rebound (even if it’s not up to what you originally got it as) waiting the time for it to get there would be a better way to ensure you don’t lose so much.

Duplication

This is a way to spread your risk and it is a trusted risk control. In the stock market, creating one investment transaction to hedge another one could be duplicating the risk. If using hedging, however, the investor must choose a security inverse to the other one.

Diversification

This is the most advanced form of duplication. The idea is to spread your risk by spreading your investment across different classes, styles of investments, levels of risk, and more.

When some go down, others will go up. This is what we mean when we say your investment portfolio is balanced.

Written by Lawretta Egba