Risk Factors of Mutual Funds
When it comes to mutual fund investments most people are afraid to even try them because of the disclaimer that we have gotten used to hearing after every advertisement. 'Mutual Funds are subject to Market risks. Please read the offer document carefully before investing.' But simply deciding not to invest without even understanding what these risks are is a little silly.
While all investments have to share the risks, you can not get a good return for your hard earned money without taking big risks. Therefore, it is very important when you consider the investment fund.
The most important relationship to understand with regards to mutual fund investments is the risk- return trade-off. This can be very simply explained as - higher the risk, greater are the returns/loss and consequently lower the risk, lesser are the returns/loss.
There are many different risks, and mutual funds, investors should be aware of before investing. These include market risk, credit risk, inflation risk, interest rate risk, government/political risk and liquidity risk.
There may be a number of outside influences that affect the market in general which could cause the prices and yields of securities to rise and fall. This may happen in the case of large corporations as well as small to mid-sized companies. This is what is known as Market Risk. However a Systematic investment plan which works on the concept of Rupee Cost Averaging may help to mitigate Market risks.
Credit risk management which deals with investors in the debt through cash flows of the company. Credit risk is measured by independent rating agencies that the companies and their rate card. Rating of 'AAA' is considered the safest and D is considered bad credit. This risk can be reduced well-diversified portfolio.
Inflation risk is the most common risk existing in the market today. Inflation is simply the buying power of the time. Most investors thinking investment decisions to protect the long-term capital. However, most of these investors end up with the amount of money buys less than it could be a pilot investment. This is because the inflation rate can grow faster than the rate of return. However, the well-diversified portfolio that invests in stocks may reduce the risk of inflation.
Liquidity risk is a risk that arises when it becomes difficult to sell the securities that one has already purchased. It can be mitigated partly by diversification and also by staggering the internal risk controls that lean towards the purchase of liquid assets.
Article Source: FxTradingStock.com
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Get more information about Mutual Funds and about the best mutual funds available.
by: Bindu Srinivasan
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Date: Thu, 6 Jan 2011
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