What are Risk-Free Investments?
A risk-free investment is one in which the investor suffers no chance of losing money. Either through the return of capital or, ideally, capital plus interest, a risk-free investment guarantees that the investor will either break free or make money over the period of investment. The concept of risk free investments is more of a standard than a reality; even with the safest investment, there remains some chance of losing value, if not actual dollars. The most cautious investors may try to get as close to risk-free investing as possible, but this is not usually an attainable goal.
Some financial experts cite US Treasury bills, called t-bills, as the closest thing to risk-free investments. Backed by the promise of the United States government, t-bills advertise, and often provide, a safe chance of profit in return for loaning the government a certain amount of money for a set period of time. Investors buy t-bills at a discount rate, meaning that a bill worth $1000 US dollars (USD) could be purchased for $900. When the bill matures, the government pays the investor the full $1000 USD, giving him a profit of $100 USD.
While the mechanism for t-bills may be risk-free, the investment does actually carry some risk. One risk, though extremely remote, is that the government could default on its debts, essentially declaring bankruptcy. A more likely loss of profit could occur due to inflation. If inflation rises fast enough during the maturation of the t-bill, an investor might still receive his full payment from the government, but find it worth less than his initial investment due to the falling value of the dollar. Thus, even the safest bets in the market cannot entirely be considered risk-free investments.
Risk-free investments, while theoretically possible, can almost never be guaranteed. Stocks, bonds, and other investments do not exist in a vacuum, meaning that to some extent their risk level is affected by external events. A decline in the value of a market, a crash in a related area, or a reduction in liquidity can all damage the earning potential of an investment. Even on a macroeconomic scale, events may have repercussions for supposedly risk-free investments: if another country suddenly defaults or experiences an economic crash, the effects on the currency market alone could potentially add risk to nearly any type of investment.
Since risk-free investments cannot usually be guaranteed, the process of investing often involves creating a balanced portfolio that reduces risks. This may mean crafting an investment strategy that counterbalances risky investments with relatively safe ones in order to ensure at least some profit in most market situations. There are dozens of strategies designed to reduce risk in investing as much as possible, but it is important to remember that the total guaranteed elimination of risk is an elusive goal.
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