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Different Types of Risks

No matter how cautiously or carelessly we lead our lives we are all exposed to some type of risk in one way or the other. Acknowledging this fact has led many people to find ways and means to effectively deal with risks in order to avoid and reduce risks as well as resolve the difficulties that may arise in the event of misfortune should after having taken a risk.

As an offshore investor you should be aware of the potential risks involved in making an investment in any type of commodity and the measures that can be taken to reduce loss; two of which include investing in low risk commodities such as a fixed deposit with an offshore bank or ensuring that your offshore investment portfolio is adequately diversified to balance off highly risky offshore investments with more conservative, secure investment. Since high-performance offshore investments which promise very high returns are usually considered the most risky, the risk lover who wants only quick turnovers and returns may have a lot to think about.

To deal with the issue of offshore investment risks, financial risk management strategies have been devised by experts in the field. Given the significant changes in the financial services sector over the past 30 years as result of liberalization, technological advancement, deregulation and globalization more sophisticated and scientific financial risk management strategies are being developed for both local and offshore investors. However, an offshore investor is only able to manage his offshore investments risks by first identifying and understanding what his risks are.

Risk ran by an offshore investor is generally understood as the possibility that the return calculated on any given investment will not work out to be the anticipated amount. Since the word ‘risk’ has a negative connotation, an offshore investment risk refers to the possibility of losing a part or the entirety of an original investment. Hence, anything that has the potential of generating a loss on an investment can be considered a risk.

Offshore investment risks can be categories in two main groups, namely systematic and unsystematic risks. For an offshore investor, a systematic risk would affect a significant number of assets and relates to aggregate returns, while on the other hand unsystematic risks are not associated with aggregate market value and is more specific in terms of different types of companies and industries. Unlike unsystematic risks which can be dealt with through adequate portfolio diversification, systematic risks are very difficult, almost impossible to mitigate. An example of a systemic risk is a social upheaval or coup d’état which are both capable of negatively impacting many or all assets in an offshore investor’s portfolio. Other terms used to refer to systematic risk include aggregate, market or undiversifiable risk, whereas unsystematic is also known as idiosyncratic risk, diversifiable risk, specific risk or residual risk. Careful note must be made when referring to systemic risk, as this is totally different from the aforementioned risks and is comparable to a bank run and refers to the possibility of a collapse of an entire market or financial system occurring.

Most investors are familiar with the term market risk, which basic refers to the volatility of markets as a result of daily fluctuations in the prices of stocks. Stocks and options are highly vulnerable to market risk, though high-performance is usually expected during a bull market contrary to a bear when prices drop.

In the event that an offshore investor invests in a company or with an individual and in the end is unable to obtain his returns due to the inability of the company to pay the agreed interest or principal on that investment, the offshore investor is in the face of a credit risk, which is also known as a default risk. Offshore investors who purchased investment bonds run this risk, which tends to have a much higher incidence with corporate bonds which produce very high interest rates and are less secure, than government bonds with pay lower interest rates but are more guaranteed.

When choosing a country in which to invest, offshore investors should be aware of the country risk, which occurs whenever a country defaults on its payments. The effect of this risk does not only affect individual offshore investors, but numerous corporations and other governments. Country risks have the potential of affecting all sorts of offshore investment commodities; meaning that careful thought must be given before making such an investing. Political risk is not the same as country risk but involves a change in policies by a government that may negatively influence an investment made by an offshore investor.

For the offshore investor, foreign exchange risk is critical in ensuring that true value is obtained at the end of the day due to the fact that prices are affected by currency exchange rates. Hence, a British offshore investor who invests in securities in Euro may stand to lose financially if the Euro depreciates in relation to the pound Sterling even though the share value of the share investment appreciates. Similarly, interest rate risk threatens offshore investments should there be a decrease in the anticipated rate for one reason or the other; bonds are more often affected by interest rate risk than stocks.

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