CAT / FIA FFM Syllabus C. Managing Cash Balances - Risk and Return of different securities - Notes ^{2 / 4}

A profit is the "return".

The "risk" is the likelihood the investor could lose money

If an investor decides to invest in a security that has a relatively low risk, the potential return on that investment is typically fairly small and vice-versa

Different securities—including common stocks, corporate bonds, government bonds, and Treasury bills—offer varying rates of risk and return

The different types are as follows

• Treasury bills

  These are about as safe an investment as you can get. 

  There is no risk of default and their short maturity means that the prices of Treasury bills are relatively stable

• Long-term government bonds

  These on the other hand, experience price fluctuations in accordance with changes in the nation's interest rates. 

  Bond prices fall when interest rates rise, but they rise when interest rates drop

  Government bonds typically offer a slightly higher rate of return than Treasury bills

• Corporate bonds

  Those who invest in corporate bonds have the potential to enjoy a higher return on their investment than those who stay with government bonds. 

  This is because the risk is greater. 

  The company may default on the bond.

  Investors want to make sure that the company plays fair. 

  Therefore, the bond agreement includes a number of restrictive covenants on the company

• Ordinary shares / Common stock

  Common stockholders are the owners of a corporation in a sense, for they have ultimate control of the company. 

  Their votes on appointments to the corporation's board of directors and other business matters often determine the company's direction. 

  Common stock carries greater risks than other types of securities, but can also prove extremely profitable

  Earnings or loss of money from common stock is determined by the rise or fall in the stock price of the company

• Preference shares

  While owners of preferred stock do not typically have full voting rights in the company, no dividends can be paid on the common stock until after the preferred dividends are paid