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Risk And Return Is The Fundamental Parameters Of Any Investment

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Risk and Return Risk and return are the fundamental parameters of any investment. While some investments may present greater risk they are countered by a higher rate of return. The vice versa holds true as well, less risk corresponds to a lower return. One way to measure risk is through calculating the standard deviation of returns. This measurement tells an investor how volatile or risky an investment is, by providing the investor with a range of possible outcomes based on the stocks expected return. Therefore, the lower the standard deviation percentage the less risk a given investment has. Moreover, when risk is being analyzed for more than one investment in a portfolio, a correlation of returns measurement is used. This calculation determines whether or not the investments respond similarly (+1) or conversely to market changes (-1). The closer the correlation is to -1 the more diversified the investment is resulting in less risk (Hirt, Block & Basu, 2006). Combined, these measurements provide investors with the tools necessary to analyze an investments risk and determine the best investment choices.
Comparing Investments Comparing the investments in the chart above, an investor can use the standard deviation and correlation of returns to determine the given risk of the investments, as well as which investment choice would yield a better return. With the information provided a portfolio made up of equal parts B and C will ultimately be less risky than a
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