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What Risks Lurk in Each Asset Class? (Part 1)

A field guide to the key risks for investors in stocks, bonds, and yes, cash.

Christine Benz 22.12.2014

Academics and finance professionals sometimes refer to the "risk-free rate of return" as a benchmark; in this context, the risk-free rate is the yield on cash assets, where you're guaranteed stability of principal even as you pick up a slight (these days very slight) return. 

But despite the ubiquity of the term "risk-free rate," no investment is 100% free of every possible risk. Even as assets parked in CDs and online savings banks won't fluctuate in value, the investor who parks too much in them can face other types of risks, including inflation risk and shortfall risk. Meanwhile, stocks have a much higher level of risk in the conventional sense, in that you could lose all your money and never recover it. At the same time, an investor who buys and holds a mostly stock portfolio generally faces less of a shortfall risk than the investor who parked the same amount in cash over several decades. 

Because each and every investment type entails at least some type of risk, investors would do well to make sure they understand the key risk factors associated with each asset class, build portfolios well diversified across asset classes (and, in turn, risk factors), and don't take more risk than they can afford to, given their time horizons.  

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About Author

Christine Benz  Christine Benz is Morningstar's director of personal finance and author of 30-Minute Money Solutions: A Step-by-Step Guide to Managing Your Finances and the Morningstar Guide to Mutual Funds: 5-Star Strategies for Success. Follow Christine on Twitter: @christine_benz and on Facebook.

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