Exposure
Financial Exposure is the amount an investor can lose on an investment if the investment fails.
For example, the financial risk of buying a car would be the amount of the initial investment minus the insured part. As an alternative term for risk, it is a crucial part of the investment process.
Typically, investors always try to limit their financial exposure in order to maximize returns. For example, if 100 shares bought at $ 10 per share were valued at $ 20, selling 50 shares would eliminate financial exposure. The original purchase cost the investor $ 1,000. If the stock appreciates, selling 50 shares for $ 20 will return investors’ original stake.
The only risk in the future would be the profit made, since the investor has already received the principal amount back. At a price of $ 10 to $ 5 per share, the investor would have lost half of the original principal.
Financial engagement does not just apply to investing in the stock market; it lasts as long as a person can lose some of the principal amount spent. Buying a home is a great example of financial risk. If the property falls in value and the owner sells at a price lower than the original purchase price, the owner will recognize a loss on the investment.
The easiest way to minimize financial risk is to invest money in protected investments with little to no risk.Certificates of deposit (CDs) or savings accounts are two ways to drastically reduce financial risk that the Federal Deposit Insurance Corporation (FDIC) guarantees both the CD system and the savings account up to qualifying coverage amounts of USD 250,000.
However, without risk, an investment brings little return. This leaves a conservative investor vulnerable to other risks such as inflation. Another way to reduce financial risk is to switch between many assets and asset classes.
To build a less volatile portfolio, an investor must have a combination of stocks, bonds, real estate, and various other asset classes. In the case of stocks, there must be greater diversification between market capitalization and exposure to national and international markets.
If an investor successfully diversifies their portfolio across many asset classes, they must reduce overall volatility. When the market turns bearish, minimizing uncorrelated asset classes is another way to reduce financial risk.
There are many ways to hedge a portfolio or investment. The New York Times reported in 2007 that Southwest Airlines had bought oil futures contracts at lower prices as a hedge. Oil prices soared, causing the aviation industry to raise ticket prices and reduce margins, Southwest kept its prices lower. This availability of lower prices resulted in consumers buying Southwest tickets regardless of brand loyalty. through the use of options, reverse exchange traded funds or bear-oriented funds. the most common hedges and usually appreciates with an inflated dollar or volatile markets.