Business Risk
The uncertainty of income caused by the nature of a company’s business measured by a ratio of operating earnings (income flows of the firm). This means that the less certain you are about the income flows of a firm, the less certain the income will flow back to you as an investor. The sources of business risk mainly arises from a companies’ products/services, ownership support, industry environment, market position, management quality etc.
Liquidity Risk
The uncertainty introduced by the secondary market for a company to meet its future short-term financial obligations. When an investor purchases a security, they expect that at some future period they will be able to sell this security at a profit and redeem this value as cash for consumption – this is the liquidity of an investment, its ability to be redeemable for cash at a future date. Generally, as we move up the asset allocation table – the liquidity risk of an investment increases.
Financial Risk
Financial risk is the risk borne by equity holders due to a firm’s use of debt. If the company raises capital by borrowing money, it must pay back this money at some future date plus the financing charges (interest charged for borrowing the money). This increases the degree of uncertainty about the company because it must have enough income to pay back this amount at some time in the future.
Exchange Rate Risk
The uncertainty of returns for investors that acquire foreign investments and wish to convert them back to their home currency. This is particularly important for investors that have a large amount of over-seas investment and wish to sell and convert their profit to their home currency. If exchange rate risk is high – even though a substantial profit may have been made overseas, the value of the home currency may be less than the overseas currency and may erode a significant amount of the investments earnings. That is, the more volatile an exchange rate between the home and investment currency, the greater the risk of differing currency value eroding the investments value.
Country/political Risk
This is also termed political risk, because it is the risk of investing funds in another country whereby a major change in the political or economic environment could occur. This could devalue your investment and reduce its overall return. This type of risk is usually restricted to emerging or developing countries that do not have stable economic or political arenas.
Market Risk
The price fluctuations or volatility increases and decreases in the day-to-day market. This type of risk mainly applies to both stocks and options and tends to perform well in a bull (increasing) market and poorly in a bear (decreasing) market. Generally with stock market risks, the more volatility within the market, the more probability there is that your investment will increase or decrease.
Interest Rate Risk
Interest rate risk is the risk that an investment's value will change as a result of a change in interest rates. This risk affects the value of bonds more directly than stocks.
Credit or Default Risk
Credit risk is the risk that a company or individual will be unable to pay the contractual interest or principal on its debt obligations. This type of risk is of particular concern to investors who hold bonds in their portfolios. Government bonds have the least amount of default risk and the lowest returns, while corporate bonds tend to have the highest amount of default risk but also higher interest rates. Bonds with a lower chance of default are considered to be investment grade, while bonds with higher chances are considered to be junk bonds.
Lellah answered the question on November 8, 2021 at 08:01
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