Types of Investment Risk: Macroeconomic Risk
Published on June 19, 2013
We are in the middle of a series breaking down the various types of investment risks. You can read the introduction here. We are posting one article covering one risk each weekday until the series is complete.
Yesterday we covered Government Regulation/Taxation, and today we are covering...
Risk #8: Macroeconomic Risk
Description: Most investments are "long the economy," meaning that they fair better when the economy (global or domestic) is growing and they perform poorly when the economy is in recession. Macroeconomic (aka "economic") risk simply refers to the risk of a slowing economy that could result in generally poor investment performance due to reduced aggregate demand, profit margins, earnings growth, etc.
Primarily Applies to... All investments that are dependent in one way or another on a healthy, well-functioning economy are potentially subject to this risk.
Real World Examples: Great Depression, Savings and Loan Crisis, Dot-Com Bust, Great Recession of 2008, housing crisis, etc.
Extreme Avoidance Measures: Stay in cash or insurance contracts that provide guaranteed returns.
Potential Mitigations: Invest in "tail risk" insurance--investments that do well when the economy weakens (such as managed futures, hedge funds, or any bearish strategies that short the market. Diversify by asset class and buy value-oriented investments that have been purchased at a discount to market to provide cushion for an economic downturn. Invest in absolute return investments that provide potential upside in both up and down markets.
Stay tuned, tomorrow's highlighted risk is: Geopolitical Risk.