What Is Investment Risk?

A Simple Definition of Risk

At its core, investment risk is the possibility that your actual returns will be lower than you hoped, take longer than you planned, or move in ways that feel uncomfortable along the way. Risk is not only about losing everything — it is also about volatility, uncertainty, and timing.

For example, a diversified stock index fund is unlikely to go to zero, but its value can swing 20–30% in a bad year. If you might need that money in the next year or two, that volatility itself is a real risk, even if long-term returns are attractive.

The Main Types of Investment Risk

Investors face several kinds of risk at the same time. A few of the most important include:

Market risk

The risk that the entire market or asset class falls in value. Even strong companies can see their share prices drop during recessions or crises. Stock index funds carry market risk by design.

Inflation risk

The risk that the purchasing power of your money erodes over time. Cash under the mattress feels “safe,” but if prices rise 3% a year while your money earns nothing, you are quietly losing ground.

Credit and default risk

With bonds and fixed income, there is a risk that the issuer might miss payments or default. Government bonds usually have low credit risk; lower-rated corporate bonds have more.

Concentration risk

The risk that comes from putting too much money into a single stock, sector, or region. If that one area runs into trouble, your whole portfolio suffers. Diversification is meant to manage this risk.

Behavioural risk

The risk that you abandon a good plan at the worst possible time. Panic-selling during a downturn, or chasing fads after strong runs, can damage long-term results more than market movements alone.

Risk and Return Are Connected

In general, assets with higher potential returns also come with higher risk. Cash and short-term government bills are very stable but offer low expected returns. Stocks can offer much higher long-term returns but with more severe ups and downs.

The goal is not to eliminate risk — that would also eliminate growth — but to take risk in a way that is deliberate and appropriate for your goals. Our guide Risk vs Return walks through this trade-off in more detail.

How to Think About Risk Calmly

A useful way to think about risk is to ask three questions:

• Can I afford this risk? (financial capacity)
• Can I tolerate this risk? (emotional comfort)
• Am I being paid enough for this risk? (expected return)

If the answer to all three is “yes,” the risk may be appropriate. If not, you may need to adjust your asset allocation, build a larger emergency fund, or slow down your timeline.

Managing Risk Instead of Avoiding It

You cannot remove risk from investing, but you can manage it intelligently:

• Diversify across asset classes, sectors, and geographies.
• Match risk to time horizon: more stocks for long-term goals, more stability for near-term needs.
• Keep costs and fees low so more of your return stays with you.
• Use a written plan to guide decisions during volatile periods.

Good risk management is less about clever predictions and more about structure, habits, and realistic expectations.

FAQs

Is risk the same as volatility?

Volatility is one way risk shows up — prices moving up and down. But risk also includes the chance of permanent loss or falling short of your goals. Two investments can have similar volatility but very different long-term risks.

Is cash risk-free?

Cash has very low market risk, but it does have inflation risk. Over long periods, rising prices can significantly reduce the purchasing power of idle cash.

Where should I go next?

Read Risk vs Return and How to Choose the Right Risk Level to connect these ideas to your own portfolio.