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Krista Biernbaum

June 29 , 2016

Managing Risk is a Key Component to Investing

Managing Risk when Investing Are you in an appropriate asset allocation for your risk profile? This is an important question investors should ask themselves because managing risk is an essential part of investing. When global markets go through volatile times, like what we have seen this year, it tends to reveal an investor’s true risk tolerance.

A portfolio’s total risk is measured by a statistical metric called standard deviation. What standard deviation tells you is how much a portfolio can deviate from its average return. A portfolio’s return can vary +/- 1 standard deviation 68% of the time, +/- 2 standard deviations 95% of the time, and +/-3 standard deviations 99% of the time. The higher the standard deviation of a portfolio, the more the returns can vary which translates into more risk a portfolio has.  

Total risk can be broken down into two components: systemic and non-systemic risk. Systemic risk is variations in all risky assets due to uncertainties that the markets face. Non-systemic risk is factors specific to a particular company or industry. An investor can reduce and potentially eliminate non-systemic risk through diversification. However, one can’t eliminate systemic risk because every investor faces this risk; it comes with investing. Types of systemic risk are purchasing power risk, reinvestment risk, interest rate risk, market risk, and exchange rate risk.

Security National Bank’s Managed Portfolios help to manage a client’s total risk. As noted above, non-systemic risk can be reduced or even eliminated through diversification. Our diversified Managed Portfolios seek to reduce non-systemic risk by investing in various asset classes and sectors.

Also, we look at how various asset classes are correlated with each other to help lower risk as well. If asset classes have a positive correlation, then they will perform similarly; if asset classes have a negative correlation, then their performance will move in opposite directions. We seek to invest in asset classes that do not have a perfect positive correlation with each other (a correlation of +1). By doing so, it helps to lower a portfolio’s standard deviation or total risk.

Contact one of our Wealth Management Advisors today to review your portfolio and risk tolerance to ensure you are in an appropriate asset allocation for your risk profile.

 

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