The Relationship Between Return and Risk in Business Activities

Every investor has an ultimate object of return of the money spent in any kind of business activity. But, it is the universal fact there is no return without risk. The relationship between risk and return is always inversely proportional and is present in every business activities. The benefit from the investment can be termed as return while risk is the instability in getting the money invested back in the hands of investor. The two kinds of return which an investor expects from an investment are:

1. Normal income (dividend or interest)
2. Capital gain

When the portfolio value goes down as an effect of the instability of market it results in risk. When the returns from an investment are less than the expected return it involves risk. The average returns or historical returns can be used to calculate the risk involved in an investment. The two kinds of risks are:

1. Systematic risks
2. Unsystematic risks

The general principle is that the higher rate of risks, higher the return and vice versa. The measurement of risks is possible if the investor is able to express the quantitative terms of risk. However, no methods of risk calculation can give an accurate value since it is influenced by various unstable factors such as social, economical and political. The approximate value of risk can be calculated from different methods. The most commonly used method is variance of possible returns.

The different sources of risks are:

• Market risk
• Risk in the interest rate
• Risk in the purchasing risk
• Regulation risk
• Business risk
• Reinvestment risk
• International risk
• Liquidity risk

The widely accepted strategy of avoiding risk is diversification. However, it cannot eliminate risk but can only reduce it.

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