Five types of risk affecting mutual funds
Every type of investment carries some kind of risk. Even not investing involves risk – opportunity risk, or the risk that you could have made more by investing than by sitting on the sidelines.
Here is a list of the main types of investment risk that affect mutual funds*.
The risk that you will lose some or all of your principal. As markets fluctuate, there is always a possibility that the mutual funds you hold might be caught in a decline.
The risk of losing purchasing power. If your mutual funds gain 5% in a year and the cost of living goes up by 2%, you are left with a real return of only 3%.
Interest rate risk
The risk that rising interest rates will cause your mutual funds to decline in value. When interest rates rise, bond prices decline and bond mutual funds may also decline as a result.
The risk that a decline in the exchange rate will reduce your gains (or add to losses). Even if the value of a foreign-currency-denominated fund goes up, a decline in the foreign currency can reduce your returns when they are exchanged back into Canadian dollars.
The risk that the issuer of a bond or other security won't have enough money to make its interest payments or to redeem the bonds for face value when they are due. Securities with a higher risk of default tend to pay higher returns.
Fortunately, not every type of mutual fund is susceptible to every kind of risk. Equity funds, for example, are subject to market risk but help protect against inflation risk. Similarly, fixed-income funds are susceptible to interest-rate risk but offer some protection against market risk. By diversifying, you can reduce the impact of risk on your portfolio as a whole.
Contact us today to review your portfolio and ensure your current investment risk is at the right level for you.