Question

Hi, can you answer this question in more detail?

Subject: Hong Kong Personal Financial Planning Practice

Q3. B

The relationship between investment risk and potential return is positive. Analyze the risks of investment and the returns from investment.

(Words: 700 - Don't direct copy)

Answer 1

There is a positive relation between risk and return.

Risk is the uncertainty that the actuals might not meet our expectation. It is the probability that we may incur losses. Depending the type of investor you are, you may accept a higher level of risk.

A risk taking investor will take on projects which give a higher risk , as this projects also give a higher return. However, there is no guarantee that taking higher risk will enable a higher return. A investor needs to understand the tolerance level and based on its tolerance level should select a project which fits for him.

If two projects have a different levels of risk, simply comparing their return is not a effective method of comparison. Return per level of risk (Sharpe Ratio) can be used which will help in apple to apple comparison.