Investment Risk Essay

Supposed one owned a portfolio consisting of $250,000 worth of long-term government bonds, would the portfolio be riskless? Risk is defined as the probability that some favorable or unfavorable event will occur. Risk in investments is usually related to the chance that an unfavorable event will occur that will reduce the amount of one’s investment. U.S. government bonds are not completely riskless. Although the risk with a portfolio of government bonds is less risky than other types of portfolios such as long-term corporate bonds; there is still some level of risk with long-term government bonds. The best way to assess the risk on long-term government bonds is to evaluate the standard deviation of the portfolio. The smaller the deviation, the smaller the risk involved (p175). Long-term government bonds carry a standard deviation of 9.4% with an average return of 5.7% (p180). These numbers indicate that in any given year, the rate of return varies from the 5.7% average by positive or negative deviation of 9.4%. Essentially, the rate of return could conceivable be a negative 4.3%, where one would lose money. Therefore, long-term government bonds do carry a lower level of risk compared to other portfolios, but should not be considered riskless. If one had a $250,000 portfolio of 30-day Treasury bills (T-bills) and every 30 days the bills matured and the principle was reinvested in a new batch of bills; and the investor lives on the investment income for a constant standard of living, is this a riskless investment? T-bills are not truly riskless when contained in a rolling portfolio. If one invested in a single one year T-bill, regardless of economy, the standard deviation is zero. Yet, when a portfolio becomes a rolling profile, the investment income will vary depending on what happens to the level of interest rates for each monthly period in this scenario. In a rolling T-bill portfolio, the standard deviation is 3.2% with an average return of 3.9% (p.180). Therefore, stand alone T-bills can be considered riskless, but rolling T-bill portfolios will carry a very small risk of deviating investment income from rollover to rollover.