Market Risk Premium refers to the expected return on a risk asset, minus the risk-free rate. A good barometer for the risk-free rate is using a U.S. Treasury bond, which is largely considered a risk-less asset if held to maturity. To give an example, let’s say the annual expected return on Stock ABC is 11%, and a 1-year U.S. Treasury pays 2%. In this case, the market risk premium is the difference between the two, or 9%. Continue reading...
Market risk is the chance that an investment will not maintain its value when it is dependent on the many factors that influence the health of the economy and the stock market. Investors must be aware that investing money in a stock or mutual fund is to tie the fate of that money to the fate of the company or companies that they have invested in. The other side of the coin, of course, is the potential for gains. The potential gains of an investment are the premium that is paid to an investor in exchange for allowing a company or mutual fund to take risks with the investor’s money. Continue reading...
A market maker is a broker-dealer firm or a registered individual that will hold a certain number of shares of a security in order to facilitate trading. There could be as many as 50 market makers for one particular security, and they compete for customer order flows by displaying buy and sell quotations for a guaranteed number of shares. The market maker spread refers to the difference between the amount a market maker is willing to pay for a security and the amount that the other party is willing to sell it. Continue reading...
Systematic risk is the broad risk of fluctuations and downturns in the market as a whole, which it is said cannot be eliminated through diversification. Systematic risk is also known as market risk, which is the exposure of all investors to the broad movements and downturns of the market as a whole. Theoretically it cannot be controlled for through simple diversification, since that would only bring a portfolio closer to the broad market performance, with a Beta closer to 1. Continue reading...
Unsystematic risk is idiosyncratic or unique risk that does not reflect a direct correlation with the risk present in the market, or systematic risk. Most securities and portfolios experience risk and variations which are not attributable to the market as a whole, and this is known as unsystematic risk. Systematic risk, on the other hand, is the risk borne by all investors in the market, where broad changes in the market cannot be avoided through diversification of a portfolio. Continue reading...
Risk can be defined as exposure to the possibility of loss of an asset. Risk might be used to denote the cause of the potential loss, or the probability of the loss. In finance, it is common to hear about the correlation between risk and return; more risk may yield a higher return, but it also has the potential for more loss. The situation requires that an investor willing to take such a risk must provide the capital to fund the investment which may grow or may fail. Continue reading...
Unlevered beta is crucial for investors and analysts assessing a company’s market risk independent of its debt. This article breaks down unlevered beta’s definition, importance in equity valuation, and how it enhances trading strategies by isolating asset-based risk. Dive in for a deeper understanding of this essential financial metric and how AI-driven tools like Tickeron’s A.I.dvisor can refine your market insights. Continue reading...
Counter-party risk is the risk that the person on the other side of the trade will not meet his or her contractual obligations. In other words, it’s essentially the risk of doing business with someone. In financial contracts, counter-party risk is also known as “default risk.” Continue reading...
Stocks are inherently risky, and an investor has risk of capital loss. As with most things in life, no risk yields no return. Theoretically, the greater the risk, the greater the potential return. A new company which has not established itself yet will have a decent chance of crashing and an investor can lose all invested capital. But — what if it takes off? Your potential gains in such a situation are potentially vast. There is a point when the rate of increased return per degree of risk begins to slow down. Continue reading...
The difference between the Bid and Ask prices on a stock or other security are known as the Spread. Designated market makers are traders whose job it is to make a market for securities, by offering to buy or sell shares, and thus creating liquidity, often at the same time. Their money is made on the spread. In highly liquid markets, the spread will shrink. So if everyone is buying and selling the same stock one day, there may be virtually no spread between the Bid and the Ask price, and this is seen as efficient. Continue reading...
Countries, investors, and international businesses have to frequently assess currency risk, which is the chance that exchange rates will change unfavorably at inopportune times. An investment in a foreign security or company, or income payments coming from foreign sources, can be at risk for exchange rate changes. If an investor or company has financial interests which are based in another currency, or if the investor engages in Forex trading, currency risk looms over the future value of the holdings, on top of any typical market risk. Continue reading...
The Equity Risk Premium (aka, Equity Premium) is the expected return of the stock market over the risk-free rate (U.S. Treasuries). This number basically refers to the amount an investor should expect in exchange for accepting the risk inherent in the stock market. The size of the equity risk premium varies depending on the amount of risk of a portfolio, the market, or a specific holding investment, against the risk-free rate. Continue reading...
The notion of who bears risk for various sorts of failures, circumstances, or losses is a prevalent one in the financial world, and many institutions make all of their money accepting risks. To accept a risk is to bear the burden of loss or replacement if an event occurs that causes an asset to lose value or disappear. There is a bright side to this, however. There is a real and theoretical “risk premium” due to those who accept a risk. Continue reading...
International banking regulations set forth in the Basel Accords require that institutions maintain a certain amount of capital relative to the amount of risk-weighted assets (RWA) they have. Conservative investments such a treasury notes have a risk weighting of zero, while corporate bonds have a weighting of .20, and so forth. The exact weighting system is laid out in Basel agreements. The system is designed to reveal a bank’s level of exposure to potential losses, and the capital requirements are there to balance out the risks and to protect the global economy from a meltdown in the financial system. Continue reading...
Mark to Market (MTM) is an accounting method meant to price an asset by its most recent market price. An example would be mutual funds, whose “NAV” price is a mark to market price of how much the mutual fund closed for at the end of a trading session. The mark to market accounting method has some pros and cons. On the pro side, if an asset is very liquid, then MTM will provide an accurate reflection of its current value. Continue reading...
There are investments which have the potential for very high returns, but they will always be that much riskier than the lower-yielding alternatives, and this is part of the risk/return trade-off. The relationship between risk and return is a positive linear relationship in most theoretical depictions, and if an investor seeks greater returns, he or she will have to take on greater risk. This is called the risk/return trade-off. For more stability and less risk, an investor will have to sacrifice some potential returns. Continue reading...
For comparisons of the risk/return ratio of an investment, one must start with a benchmark of a risk-free rate of return in the current market. Since U.S. Treasury bills are backed by the full faith, credit, and taxing power of the U.S. Government, they are considered “riskless,” or as close to riskless as we can get. The current yield on a 10-year Treasury note is generally considered the risk-free rate of return. Continue reading...
The risk-free rate of return is the rate an investor can get on a risk-free asset at a given time. It is usually the current yield on a 10-year treasury, which is backed by the full faith and credit of the US Government and is considered risk-free. The risk-free rate is used in several calculations and considerations in finance, to show what return can be earned in the current market environment without being exposed to any risk. Continue reading...
Your risk tolerance should be a measure of how willing you are to absorb losses in your portfolio. Studies in behavioral science show that investors loathe losses about two and a half times more then they enjoy gains. Everyone can likely relate to this stat. But, to be a successful investor that achieves long-term equity like returns, one has accept some level of risk inherent in the stock market. Continue reading...
Foreign Exchange Risk is the possibility that exchange rates will move against you when you have pending payment on transactions in another currency or other investment positions in foreign currencies or foreign assets which will be affected by Forex fluctuations. Foreign Exchange Risk can also be called Forex risk, and it is the potential loss to an investor or institution when doing business in a foreign currency if the exchange rate swings unfavorably. Companies and countries take various measures to hedge against exchange rate risk, including holding reserves of other currencies and buying derivative contracts on various currency pairs. Continue reading...