Risk Allocation for Balancing Financial Risks and Investment Funds

Determining risk allocations begins with identifying risks. Once the risks are identified, they should be categorized according to the probability of the risk and determine how significant the impact of such a risk would be. Obviously, risk allocation has some speculative nature to it but there is also a lot of established research with results widely available on the Internet. Any fund manager must allocate risk when determining the makeup of an investment fund, just as the individual should manage risk when determining what funds to invest in.

Various types of risks occur in everyday business operations including, credit risk, country risk, market risks, etc. However, the good fund manager will do a good job scrutinizing risks that may be more probable in his managed funds. For example, a fund manager overseeing a Latin American fund that includes Venezuelan assets would have to consider the recent seizures of private assets in his risk allocation. This might be the biggest risk in investing in Venezuela right now. Country risk must always be considered when investing in foreign funds.

Private investors can do their own risk allocation when researching investment funds. A little research can provide a level of fund risk management that is more responsive to changing markets. One of the tools fund managers use that is widely published on the Internet is beta. Beta is calculated through regression analysis and shows the tendency of a security’s returns to respond to market changes. Beta is less than 1, 1, or more than 1. A beta of 1 represents the volatility of the market itself. A beta more than 1 shows the fund to be more volatile than the market and a beta less than 1 shows the beta to be less volatile than the market. By putting beta to practical use an investor would want a fund with a beta greater than 1 during bull markets and a fund with a beta less than one during bear markets.

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