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Understand the types of risk Manage risk with diverse investments Match your investments to your goals The unseen risks of inappropriate investments

To most people, risk evokes negative images — driving faster than the speed limit, placing bets on a long shot, or traveling alone to unfamiliar places. Mention risk in terms of investing, and people might think about losing their life’s savings. But in reality, investment risk comes in many forms, and each can affect how you pursue your financial goals. The key to dealing with investment risk is learning how to manage it.

Step One: Understand The Various Risks Involved

Barron’s Finance and Investment Handbook (1998) defined risk as the measurable possibility of losing or not gaining value. Fear of losing some money is probably one reason why people may choose conservative investments, even for long-term savings. While investment risk does refer to the general risk of loss, it can be broken down into more specific classifications. Familiarizing yourself with the different kinds of risk is the first step in learning how to manage it within your portfolio.

Market Risk.

Also known as systematic risk, market risk is the likelihood that the value of a security will move in tandem with its overall market. For example, if the stock market is experiencing a decline, the stock mutual funds in your portfolio may decline as well. Or if bond prices are rising, the value of your bonds could likely go up.

Interest-Rate Risk.

Most often associated with fixed-income investments, this is the risk that the price of a bond or the price of a bond fund will fall with rising interest rates.

Inflation Risk.

The risk that the value of your portfolio will be eroded by a decline in the purchasing power of your savings, as a result of inflation. Inflation risk needs to be considered when evaluating conservative investments, such as bonds, bond funds, and money market funds* as long-term investments. While your investment may post gains over time, it may actually be losing value if it does not at least keep pace with the rate of inflation.

*An investment in a money market fund is not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency. Although the fund seeks to preserve the value of your investment at $1.00 per share, it is possible to lose money by investing in the fund.

Credit Risk.

It comes into play with bonds and bond funds. It refers to a bond issuer’s ability to repay its debt as promised when the bond matures. Bonds and bond funds are given credit ratings by such agencies as Moody’s and Standard & Poor’s. In general, the higher the rating, the lower the credit risk. Junk bonds, which generally have the lowest ratings, are among the riskiest in terms of credit. People who invest in them therefore typically seek higher yields to compensate for their higher credit risk.In addition, international investments involve such risks as fluctuating currency values (currency risk) as well as the potential for social, political, and economic upheavals that may affect a country’s markets.

Step Two: Manage The Risks With Diverse Investments

The old cliche, Don’t put all your eggs in one basket, is very applicable to the realm of investing. The process of diversification, spreading your money among several different investments and investment classes, is used specifically to help manage market risk in a portfolio. Because they invest in many different securities, mutual funds can be ideal ways to diversify.Selecting more than one mutual fund for your portfolio can further manage risk. Also consider the potential benefits of selecting investments from more than one asset class: When stocks are particularly hard hit due to changing conditions, bonds may not be affected as dramatically.