Risk is an integral part of investment. As a rule of thumb, risks are usually proportional to gains: the higher the returns you target, the greater the risk you need to take. However, investment history recounts many incidents where risk was miscalculated, or unforeseen market changes wreaked havoc on investors. The spectacular losses associated with the 2008 crisis, cryptocurrency debacles, mismanaged funds and scam operations would have been minimized or avoided with sound risk management. Risk management is an integral part of successful investing at all times.
Consequences of Ignoring Risk Management
The consequences of ignoring risk management and due diligence can be devastating to small and large investors alike. Without a risk management strategy, investors must be ready to manage crises.
Many investment decisions that ended in disaster were once too attractive to ignore. The Terra (LUNA) debacle shook the investment world when the price of terraUSD dropped to near zero, while the shorting of GameStop shares completely underestimated the influence of popular trading platforms. So what risk management strategies should investors consider when investing?
How to Manage Investment Risk
While risk can never be eliminated, risk management strategies can contain losses when they occur, avoiding unmitigated disasters that wipe out entire fortunes.
Step 1 - Setting Investment Objectives
An investment strategy starts with determining the expected outcome from your investment and managing its risk. Do you wish to generate income from your investments or grow your capital? Are you willing to invest for the long term to achieve your goals or do you prefer short-term investments? Answering these questions will help assess the performance of your investments and manage your expectations.
Step 2 - Understanding your Risk Tolerance
Identifying your risk tolerance starts with answer a simple question: how much are you willing to lose to reach your investment goals? To determine your risk appetite, you should consider:
- Current and future commitments: If you need cash in the short or medium term, you should consider liquid, low-risk assets.
- Investment horizon: Do you want to keep your investment for a long time or do you prefer short-term investments? A longer investment horizon allows you to weather market fluctuations and grow your investments.
- Possible loss: How much of your invested capital are you willing to lose during market fluctuations? Investors might consider an exit strategy that cuts their losses to a specific threshold.
Step 3 - Investment Planning
At this stage, you must build an investment portfolio that helps you meet your financial goals. The selection of the investments determines the risk profile of the portfolio: diversified opportunities across uncorrelated asset classes, sectors and geographies reduce risk considerably, while concentration and high correlation increase risk. Due diligence is also crucial when selecting investments to ensure the quality and viability of the opportunities.
Step 4 - Monitoring
After committing capital, your investments must be monitored constantly to manage trouble spots and benefit from opportunities that arise. Based on market fluctuations, risk tolerance and market outlook; investors implement risk management actions that aim to preserve their capital.
Step 5 – Consult Experts
Expert professional investment management pays for itself. Look for a professional investment manager that has a solid track record across market cycles.
The Family Office Approach to Risk Management
As a trusted wealth manager, The Family Office adopts a rigorous risk management approach from sourcing the investments, to managing them during the investment period, and timing their exit.
Diversification and strategic asset allocation: By investing in multiple asset classes, industries, and geographies, loss is mitigated when any investment underperforms. We allocate assets strategically according to your goals, risk tolerance, and investment horizon.
A thorough vetting process: We source investment opportunities in partnership with prominent asset managers, and then ensure that risks are calculated and managed rigorously.
The firm has a proven vetting process that includes internal committees of market experts and independent third parties that review every aspect of an investment opportunity and select only the most viable ones.
Professional investment advisors: Our financial advisors have a deep knowledge of market dynamics and risks. They help you navigate markets and devise a risk management plan for any unforeseen developments.
Discover our exclusive private market opportunities in private equity, real estate and private debt on our digital wealth management platform.