.

Risk is the degree of uncertainty associated with a return on investment. There is no economic venture without risk. People have different appetite for risk. Gamblers carry the highest risk in life. These risk takers are prepared to win big or lose everything.

Paradoxically, like gamblers, risk averse investors also desire income but unlike gamblers, they are very concerned about preservation of their wealth, rather than staking to probably lose everything. In the midst of these, are calculated risk takers who dimension the risks confronting them, weigh their options and proceed with necessary caution.

A fundamental idea in finance is the relationship between risk and return on investment.

Therefore, when you invest, the risk and return cannot be separated. The ability to price risk opportunity identified, differentiates an investor from a gambler.

The capital market is an arena for risk taking. While so, it differs considerably from the casino. A gambler in the casino is a careless risk bearer who in pursuit of excessive greed, goes into a bet for all or nothing. In contrast, an investor carefully articulate the risks associated with a decision before making a bet. Investors also ensure that they are not total losers, should the bet back fire. They make room for a fall back position.

Despite the ideals upon which every capital market is built, controls can breakdown to a rare point where a thin line separates it from a gambling arena. This ugly scenario bedeviled the Nigerian capital market between 2005 and 2008 when the regulators lost control of the market. During that period, gamblers took control, taking the prices of even moribund companies to high heavens. Whoever failed to join the bandwagon then was considered a misfit. An investor who narrated his ordeal said that while he was busy analyzing the market then, uninformed speculators were creaming off huge profits. After deciding not to be paralyzed any further by his analysis, the said investor plunged into the accident which wounded him and many others who threw caution to the winds.

The large scale neglect of risk management which brought calamity to the portfolio of several investors during the meltdown of 2008 is a lesson for those who may wish to approach the capital market with the mentality of gamblers. You either understand the risks associated with capital market investment and manage them or be damaged by them. Risk is an adversity that a gambler does not care about but you as an investor, must use every means to manage risk so as to realize your investment objectives.

Investors face two types of risk which makes investment outcome different from expectations. These are systematic and unsystematic risks.

Systematic risks arise from impact of geopolitical and socioeconomic environment where businesses operate. This risk affect all securities equally. As a result, it cannot be diversified away. Systematic risk presents itself as the overall risk or market risk.

Underpinning this market risk are inflation risk, interest rate risk, foreign exchange rate risk, macroeconomic liquidity risk, political risk, hazard risk due to natural disaster, war, pestilence and others.

On the other hand unsystematic risk. It is the risk caused by factors unique to a particular organization or security. Underpinning unsystematic risks are industry risk, business risk, regulatory risk, etc. Industry risk affect all enterprises operating in a certain industry.

Business risk may affect the investor if a quoted company go through some convulsions due to mismanagement, failed strategies, dwindling market share, intractable labour unrest or cyber attack.

The total risk of an investment are both the systematic and unsystematic risks. Both of them are manageable. These risks are related to identified threats that can result in losses.

When either source or problem is known, the event that a source may trigger or that can cause a problem can be investigated. After identifying risks and assessing their impact on investment objectives, the  strategies to respond may be to avoid the risks or insure against them or accept and budget for them or mitigate the risks.

While systematic risk falls under the category that cannot be avoided but retained and budgeted for, to an extent, unsystematic risk can be dealt with through diversification of portfolio nearly to the point where only systematic risk remains.

The simultaneous purchase or sale of another financial instrument, known as hedging, can specifically reduce or cancel out the risk in an investment. Financial hedge is a contract or arrangement reducing one’s exposure to risk (e.g. against price fluctuations, interest rate movement, etc.). Through Forwards, Futures and Options contract, several risks can be hedged and made to even magnify returns.

Hedging has now become possible on the NGX because of the recent roll out of two derivatives namely, NGX 30 Index Futures Contract and NGX Pensions Index Futures Contract.

Your Stockbroker can brief you further on how to hedge against your risks in Nigeria’s capital market using above financial contracts. With the emergence of this potent risk management tool in Nigeria, the safety of investments in the capital market is now better assured than ever.