Types of Risk
Not all risk is created equal — some of it you can eliminate just by holding more investments, and some of it will follow you no matter how well-diversified you are, which is exactly why knowing the difference changes how you should think about every investment you make.
Systematic risk (market risk): cannot be diversified away
Some risks affect nearly every investment at once — a recession, a spike in interest rates, a pandemic, a war. This is called systematic risk (also called market risk): risk that comes from factors affecting the entire market or economy, which no amount of diversification within that market can remove, because it hits essentially everything at the same time. In March 2020, as COVID-19 lockdowns began, the Straits Times Index fell roughly 30% in a matter of weeks — and it didn't matter whether you owned banks, REITs, or industrials; nearly everything fell together, because the risk wasn't specific to any one company or sector.
Because systematic risk can't be diversified away, it's the reason stocks as an asset class are expected to return more than "risk-free" assets like government bonds over the long run — investors demand compensation for bearing risk they cannot eliminate.
Unsystematic risk (company-specific): can be diversified away
Unsystematic risk (also called company-specific or idiosyncratic risk) is the opposite: risk that's unique to one company or industry, which a broader downturn doesn't necessarily cause. A factory fire, a CEO scandal, a failed product launch, a lawsuit — these hit one company (or a narrow group of related companies) without necessarily affecting the wider market at all. This is precisely the type of risk that diversification, covered in Lesson 7.1, is designed to reduce: if you own 30 unrelated companies and one suffers a scandal, your overall portfolio barely notices, because the other 29 aren't affected by that specific event.
| Systematic (market) risk | Unsystematic (company-specific) risk | |
|---|---|---|
| Source | Economy-wide or market-wide events | Events specific to one company/industry |
| Example | Recession, interest rate hike, pandemic | Product recall, fraud, factory fire |
| Can diversification remove it? | No | Yes, largely |
| Compensated with higher expected return? | Yes | No — it's "free" risk you shouldn't take on unnecessarily |
Liquidity risk, credit risk, currency risk, concentration risk
Beyond the systematic/unsystematic split, a few specific risk types are worth naming individually, because each requires a different kind of attention:
- Liquidity risk — the risk that you can't sell an asset quickly at a fair price when you need to. A blue-chip stock on the SGX can usually be sold in seconds; a stake in a private company or an unlisted property fund might take weeks or months to sell, possibly at a discount, if you need cash urgently.
- Credit risk — the risk that a borrower (a company or government you've lent money to via a bond) fails to pay you back. A bond from a financially shaky company carries meaningfully more credit risk than a Singapore Government Security, which is why riskier borrowers must offer higher interest rates to attract lenders at all.
- Currency risk — the risk that exchange rate movements erode your returns when you invest in assets priced in a foreign currency. If you're a Singapore-dollar investor holding US stocks and the US dollar weakens 10% against the Singapore dollar, your US stock gains could be partly or fully wiped out once converted back to SGD, even if the US stock price itself didn't fall.
- Concentration risk — the risk of having too much of your portfolio in one holding, sector, or country, which is really just unsystematic risk you've chosen not to diversify away. An employee who holds most of their savings in their own company's stock (on top of already depending on that company for their salary) carries significant concentration risk.
Beta: what it measures and how to use it
If systematic risk can't be removed, can it at least be measured? Yes — the tool for this is beta, a number that measures how sensitive a stock's price movements are relative to the overall market's movements. The market itself (e.g., the S&P 500 or the Straits Times Index) is defined as having a beta of 1.0.
A high-growth tech stock might have a beta of 1.5-2.0 — it swings more violently than the market in both directions. A defensive utility or consumer staples stock, whose sales don't change much whether the economy is booming or in recession, might have a beta of 0.5-0.7, dampening the market's swings. Beta is useful for building a portfolio with a deliberate risk level: an investor wanting a smoother ride might tilt toward low-beta stocks, while an investor comfortable with volatility in exchange for potentially higher returns might tilt toward high-beta names. Beta only captures a stock's sensitivity to broad market moves (systematic risk) — it says nothing about company-specific risk, which is why a low-beta stock can still suffer a company-specific disaster despite its low beta.
You own shares in a Singapore tech startup. List three types of risk you face.
Reveal Answer
Several reasonable answers exist; three strong examples are: (1) Unsystematic (company-specific) risk — the startup could lose a key customer, have a co-founder leave, or fail to raise its next funding round, none of which need have anything to do with the broader economy. (2) Liquidity risk — if the startup is unlisted (private), you likely cannot sell your shares quickly or easily; you may be locked in until an IPO, acquisition, or a rare secondary sale opportunity arises. (3) Systematic (market) risk — a broad economic downturn or a rise in interest rates could make investors less willing to fund growth-stage tech companies generally, hurting the startup's ability to raise future funding and depressing its valuation, regardless of how well the company itself is run. A fourth reasonable answer is concentration risk, if this startup stake represents a large share of your total savings.