Risk management
Definitions of the risks associated with investment products
Insolvency risk or the risk of an issuer being unable to reimburse its debt
Issuer creditworthiness is highly important as the issuer is responsible for reimbursement. Correctly assessing this risk is a key factor: the worse the financial and economic situation of the issuer, the higher the risk of not being reimbursed, or only partly. The interest rate offered by this type of issuer will of course be higher than the rate that a more creditworthy debtor would offer for a similar security. This risk can also be measured based on the ratings calculated by independent agencies such as Standard & Poors and Moody’s.
Liquidity risk or the risk, on the part of the investor, to be unable to recoup funds prior to maturity (if there is one)
Liquidity, or tradability, depends on the volume of transactions in the market on which the product is traded. Prices fluctuate more in a thin, or illiquid, market in which a single large transaction can cause a sharp variation in price. Other factors to take into consideration include embedded exit costs and the time required to recuperate the funds.
Currency risk or the risk of an unfavourable change in exchange rate of the foreign currency invested in
If the exchange rate of the foreign currency changes unfavourably during the investment period, the yield will be eroded when the investment is converted into euros. On the other hand, if the change in the exchange rate is favourable, the investment will generate a yield and also capital gains due to the favourable exchange rate.
Interest rate risk or the risk associated with a change in market interest rates
If a fixed-income security is sold prior to maturity, at a time when market interest rates are higher than the nominal rate of the bond, a capital loss will be realised. On the other hand, if market interest rates are lower than the nominal rate of the bond, the investor will realise a capital gain.
Volatility risk or the risk of downwards or upwards price fluctuations
Floating-yield securities incur capital losses if the price drops, or generate capital gains if the price increases.
Capital risk or the risk that the capital invested is not fully reimbursed
Securities without capital protection incur considerable risk, i.e. that the starting capital may not be fully reimbursed at maturity or at the time when the investor decides to sell. The capital invested effectively fluctuates as a function of the financial and economic situation of the company.
Specific fund risks
- Market risk: the risk of the market in which the fund is invested surging or collapsing.
- Concentration risk: the risk that the fund’s portfolio is heavily invested in securities within a specific market. This may lead to heavy capital losses in the event of a major crisis.
- Flexibility risk: the risk of being unable to switch easily from a given investment to other investments or other vendors.
- Inflation risk: risk incurred due to inflation.
- External risks: associated with the uncertain and inalterable character of external factors such as tax regimes, wars and natural disasters.