What Are the Different Types of Capital Market Risk?

Esther Ejim

Most investments carry with them an element of risk, and the capital market is no exception. The risks that are inherent in the different types of investments are usually unique to that particular industry, and the risks that are associated with the capital market are the result of the factors that constitute this particular type of investment. As such, the different types of capital market risk include risks from the company or industry, risks from the market itself, risks from default that is peculiar to debenture holders, risks that are the result of government regulations, and risks that can be attributed to the effects of inflation.

The possibility that the stock market might decline should be considered when analyzing capital market risk.
The possibility that the stock market might decline should be considered when analyzing capital market risk.

When analyzing capital market risk, one of the risks that should be considered is the market risk that is the consequence of a general decline in the stock market as a whole, as opposed to isolated factors or pockets of the market. Such a decline could be precipitated by any number of factors, and the effect is to cause a dip in the stock market that will affect investors across the board. The opposite of this type of general reduction in prices in the stock market is a company risk that is strictly confined to a particular company in which an investor may have put in some money. Related to this type of risk is an industry risk, which affects the companies in particular industry. An example of such an industry risk could be a reduction in the general value of the stock in the automobile industry due to some sort of crisis that may have occurred in such an industry.

Another type of capital market risk is credit risk, which concerns those who hold some form of debenture. Such investments are usually made in good faith, without any collateral and are simply based on the belief of the investor in the ability of the company or government entity to repay the loan according to the agreement. When these entities encounter some form of difficulty that makes it hard for them to repay the money according to the stated terms, this will constitute a form of capital market risk. If a steady rise in inflation in the economy continues unabated, the investor may suffer losses due to the fact that the inflation will void any gains. Also, those who invest in a company or industry at the wrong time, such as when the tide is turning against the profitability or relevance of the products from that industry, it could lead to a capital market risk that may cause losses.

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