When it comes to investments, hardly anyone thinks of insurance. Here’s how to deal with pure and speculative risk.
In the financial field, risk is the uncertainty linked to the future value of an asset, a financial instrument or any investment. In insurance field, on the other hand, it is the probability that the harmful event, ie the claim, will occur.
As we can see, the same word does not really mean the same thing: in the first case it refers to an uncertain event which can be positive or negative. The second meaning refers to an event, always uncertain, but purely negative. In this first observation we discovered what in technical jargon is called: speculative risk and pure risk. Can the risk be eliminated?
Of course not. We can only reduce it, bringing on our side the greatest probability that the event will happen or not. An example will help to understand better. The first thing to do is identify the type of risk we face: speculative or pure risk? Depending on the type there is a solution and a strategy to be implemented, let’s see both.
Speculative risk, what to do?
Let’s start with the speculative risk: this is the risk linked to an event (uncertain) that can lead, in the financial field, to a loss or a gain. In this case, how can I increase the probability that the investment will go into profit? The first thing we can do is diversify, avoiding investing all the capital in a single company, sector, country and so on.
For example, if I invest in shares, I don’t have to invest all my money in a company, this is because if things go wrong, I lose all or most of my capital. Same thing if I invest, in a single sector (eg real estate), here too the reasoning is the same. In addition to diversification, we can, indeed we must invest in financial instruments that we know well and that are in line with our risk profile, another thing to do is to consult the relative ratings, i.e. the assessments of the level of reliability of the instruments .
How to manage pure risk
In this category of risks, things are different, but here too uncertainty dominates. All we have to do is pass the hot potato to someone else. And this someone else is insurance. First thing to wrap your head around: insurance is not an expense, but an investment.
What does the word insure mean?
According to the dictionary, to insure means: "To make sure, to protect from harm or danger".
Let’s start from the fact that a given event (death, injury, illness) can happen, it has probabilities. The factors that increase or decrease these probabilities are different (age, sex, health, lifestyle), and depending on their composition, the probability of this event occurring is determined. Of course, the greater the chances of the event happening, the greater the rewards to be paid to protect yourself.
Once you have calculated the probabilities of the event, you stipulate an insurance contract which in fact makes our goal (the future of the children) safe. How? Well let’s imagine that I want to ensure the future of my children, and for this I decide to set aside €200 a month. If I only made the provision, without taking out adequate insurance coverage, I would increase the chances of failure. I expose myself more to risks, being "discovered".
But, of course, I want the best for my children, and above all I want to ensure their future, so I have to bring probability to my side. In this case, with an insurance coverage I carry the probability of 100% success, you read it 100% correctly. I show you, making sure about the life and injury case (the two events that if they happened, would not make me reach the goal) for an adequate ceiling, I bring the probability of success to 100%, this because if the event does not happen, the problem is not there. Same thing if the disastrous event occurs, because the insurance would pay me, guaranteeing the continuation of the investment.
Original article published on Money.it Italy 2022-11-10 16:32:12.
Original title: Come gestire il rischio puro e speculativo negli investimenti
