Nothing in this world is risk-free, every task be it career, business or personal finance planning all possess inherent risks with them. There is no running away from these risks, they can either be dodged with a bit of luck or can be managed smartly and render it’s impact to minimal.
In personal finance planning, since all your savings are at stake, it is better to manage the same smartly rather than waiting for luck to help you out. People who tend to avoid risk have a greater chance of remaining poor than people who embrace risk. This is simply based on the concept of ‘higher the risk higher the gain’. However, these risks if not managed properly can leave you a lot poorer than first imagined. Investment in personal finance planning is like a marathon, where taking risks may result in temporary joy, but managing it may result in long term success. Thus, risk management is nothing but identification, assessment and minimizing all risks involved in any specific task.
Whenever personal finance planning is discussed, risk management always tops the priority chart. Every investor can be either termed as investor or speculator, because investment’s performance is nothing but a speculation. Therefore, an investor is kind of both an investor as well as a gambler. Speaking of gambling, it is needless to mention that the person who takes more risk is eligible for more gains and vice versa. Thus, you will be either a millionaire or bankrupt in one night, but can you risk your savings in this manner? The obvious answer is no, but will risking little stakes make you rich? Again, the answer is No. Therefore, finding the right balance and taking meaningful risk is the optimum solution to such dilemma and in doing so, you implement the risk management strategy of taking meaningful risk. This strategy covers the worst-case scenario, and optimizes your returns thereby leveraging your personal finances.
Trap of over diversification
Every investor’s target is maximum return with minimum risk, in achieving so they fall into a very obvious trap of over diversification. There are always certain high performing investment options which majority investors move away from as a result of their risk-taking appetite. However, many experts think otherwise, stating that personal financial planning should target high potential investment options and avoid putting all eggs in different baskets. Although diversification may act as balancing formula, it will also hinder the potential returns which are missed out on other options and instead will leave you with meager and pointless returns.
Trap of staying too long in the investment
Another rookie mistake every investor goes through is staying too long in the investment and skipping the easy exit route. Greed is the bread and butter of every investor, however too much of butter always spoils the bread. Risk management teaches every investor to take profits once the target is achieved and stop speculating for higher profits. It may happen that investors may regret leaving too soon. Regretting with profit in hand is always better than loss in plate.
Why taking risk and risk management are necessary
A dosa which costs Rs 100 today, will cost 110 next year or Rs.120 in the subsequent year, thereby reducing the power of your money. Therefore, money stored in bank accounts or piggy bank though will be safe from risk (bar theft) however, it may leave you considerably short in future. This leaves investor with only one option--to invest these incomes in certain investment avenues, thereby forcing you to embrace risk. Therefore, risk is the only option to keep your money future-proof, as every investment option comes with more or less risk.
If keeping your money future-proof is one task, making wealth is altogether another. Mere future-proof money will not make you rich, but will only help you sustain the inflation temporarily. Taking optimum risk is the route to wealth. Risk management is the tool which will help investors ascertain their optimum risk and thereby make them not only future proof but also wealth proof.
Risk Management in practical life
Every investment is made for attainment of an objective which may be anything from retirement to buying a house or from marriage, etc. Risk management varies in every objective because of difference in the term of investment. Take an example of retirement saving, where every individual is striving for early yet stress-free retirement. There are numerous aspects which impact your retirement fund:
Personal status: It may be defined as unplanned personal issues such as accidental unemployment or change in marital status or even an unwanted litigation may substantially hamper your retirement plans. Therefore, building an emergency fund is necessary in order to cater such contingencies.
Healthcare: Medical treatment in the current scenario is very expensive, but so is human life. Medical expenditure will eat up majority of your investment, leaving too little too late for your retirement savings. In case of accidental death, your loved ones future planning will be left unattended. Thus, medical policy and term insurance tools should be embraced to minimize such risk.
Governmental norms: Returns on any investments are influential to governmental policies, and any change in it may have direct impact on present as well future returns. It is always prudent to plan your investment by having a plan B (worst case scenario).
Country’s economy: Investor should make themselves aware of the economical status of the country, by keeping one eye on inflation, interest rates, stock market fluctuations and trending market sectors. It is never invest and forget, it should always be invest, watch and act.
This is a very generic example of risk management in practical life, but its significance grows more and more as investors grow old in this field of speculation aka investment.
(The writer is Founder, Money Mantra - a personal finance solutions firm)
