Risk Bearing Capacity

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Risk Bearing Capacity

There is a famous verb ‘Don’t carry all your Eggs in one basket.’  The same logic is applicable while estimating one’s risk bearing capacity.

 In simple words risk bearing capacity is nothing but one’s financial as well as emotional ability to handle the incidence of loss or non-profit or low profit situation, if occurs in future.

Many times, loss is also relative. For Instance,

Mr. A has invested Rs. 1,00,000 and he expects 10% returns in a year which is Rs. 10,000.  Suppose, in an expected investment frame, the recognized return is Rs. 9000. Though there are returns earned, they are less than the investor’s expectations. Here, how the investor looks and reacts, means if he sees half glass filled or half glass empty; will decides his Risk Bearing capacity.

Though, human nature is an unsolved puzzle... Investors’ nature is generally segregated in three major types.

               A.   Conservative Investor

               B.     Aggressive Investor

   C.      Speculative Investor

An example of Conservative Investor

Suppose, Mr. A is a conservative investor and wants very safe investment with no high risks and happy with reasonable amount of returns, so he has opted for long term investment in Super stocks for 5-10 years.

An Example of Aggressive Investor

Suppose, Mr. B is an aggressive investor so he wants to take calculated risk and also wants high returns, that’s why he has invested in emerging Blue Chips with promising prospects for medium term investment of 1-3 years.

An Example of Speculative Investor  

Suppose, Mr. C is a Speculative Investor, he can take any level of risk and wants extraordinary returns, so he has invested in speculative stocks for short term period of 1-6 months.

Now, with every investment, some risks are already associated, there severeness might vary from person to person and investment option to option. Here are some key and common risks:

1.       Interest Rate Risk:

Sometimes interest rates may change depending upon economic policies at that time.

2.       Inflation Risk:

Ups and Downs in Rupee or currency can also pose a risk

3.       Default Risk:

There is risk of not getting back your principal amount as well as returns. The recent examples of some Banks.

4.       Socio-Geo-Political Risks

             Sudden change in government policies such as ceiling on agricultural land can be a risk.   Geographic or climate changes can pose risk to the related investment.  

      

5.        Business Risk:      

There are business cycles to every business comprising, Boom, Recession, Bust and Recovery. The uncertainties during these phases may pose a risk to the investment.                  

Here, the very important thing is one should have at least basic knowledge of Micro as well as Macro Economic Factors while investing. Because, though we consider Economics as a matter of only 10 marks up to 10^th Std, believe me, it’s the most important and interested subject having with very close practical aspects related to our day to day lives.

For Instance, Let’s take an example of speculative Investor,

For speculations he needs to have very strong knowledge of situations where he can make extraordinary profit, though the risk amount which he is bearing is too high, still there is a hope to earn big return. In short, he should possess a strong sense of Quasi profit. Here comes an Economics.

For Example, imagine in the rainy season, you have forgotten an umbrella while walking, suddenly heavy rain has started, you also have an urgency to reach home early. You hopefully reach towards an auto rickshaw stand and fortunately, one auto is standing there.  You asked (Rather Requested!) the driver to drop you to the destination. He agrees but asks for almost 3 times of fare which is generally charged for your desired location.

Here, if you agree to pay it, the excess amount will be his ‘Quasi Profit’ invented by Dr. Marshall) and if you refuse to pay it, he will lose the customer and may have to sit idle in the rainy atmosphere for the remaining day.

So, Risk Bearing Capacity is related to a state of mind rather than formula-oriented calculation.

in our next post we will see how interestingly we can connect Economics and Investing ….

Till then,

Happy Investing ...

-ABCD of Investment by Madhura P. Karekar

Upcoming Blog Post: How Economics and Investments are Interconnected ...