PICTURE ANALYSIS:

A PREFERENCE
• Is a technical term in psychology, economics and philosophy
 usually used in relation to choosing between alternatives. For
example, someone prefers A over B if they would rather choose A
than B.
•  the power or chance to choose
RISK
• in finance, is the uncertainty of returns
the definition encompasses the possibility of both gains and losses.
• This brings us to another basic concept in finance – the risk-
return trade-off.
“Individuals won’t take on additional risk unless compensated by an
additional return”.
Risk Preference:

• Is a concept that explains what one person does when

faced with a risky option and a safer alternative; it is an
important predictor. 
•  is your tendency to choose a risky or less risky option. 

RISK PREFERENCES

• Three alternative views concerning the choice between

a risky outcome and a certain outcome:
A. risk aversion
B. risk neutrality, and 
C. risk loving
RISK PREFERENCES continued ----------------
• Three alternative views concerning the choice between a risky
outcome and a certain outcome
a. Risk aversion is the preference for a certain outcome over a risky
outcome. 
b. Risk loving is the preference for a risky outcome over a certain
outcome.
c. Risk neutrality is an economic term that describes individuals'
indifference between various levels of risk.
• When confronted with a choice among different investment
opportunities, risk-neutral decision makers only take into
account the expected value of the alternative and not the
associated level of risk.
Risk Aversion

• In economics and finance, risk aversion is the behavior of humans

(especially consumers and investors), who, when exposed to
uncertainty, attempt to lower that uncertainty
• Means that individuals maximize returns for a given level of risk or
minimize risk if the returns are the same .
RISK-AVERSE
• Individuals would require a higher return if the risk level increases
• The term risk-averse refers to investors who, when faced with two
investments with a similar expected return, prefer the lower-risk
option.
A risk-averse investor
• dislikes risk and, thus, stays away from high-risk stocks or
investments and is prepared to forego higher rates of
return. Investors who are looking for "safer"
investments typically invest in savings accounts, bonds, dividend
growth stocks and certificates of deposit (CDs).
• A risk-averse investor would not consider the choice to risk Php
1,000 loss with the possibility of making Php 50 gain to be the
same risk as a choice to risk only Php 100 to make the same Php
50 gain. 
Risk neutral

• is a term used to describe the attitude of an individual who may

be evaluating investment alternatives.
• If the individual focuses solely on potential gains regardless of
the risk, they are said to be risk neutral.
• Such behavior, to evaluate reward without thought to risk, may
seem to be inherently risky. 
• Given two investment opportunities the risk-neutral investor
only looks at the potential gains of each investment and ignores
the potential downside risk.
RISK LOVING
• is one of three alternative preferences for risk based on
the marginal utility of income.
• A risk loving person has increasing marginal utility of income.
With increasing marginal utility of income a risk loving person
obtains more utility from income involving risk than an equal
amount of certain or guaranteed income.
• With risk, the utility from winning exceeds the utility from losing.
Even though the expected income is equal to the certain income,
the utility obtained from the expected income exceeds the utility
obtained from the certain income. A risk loving person is better
seeking out risk.
RISK LOVER/ RISK SEEKER
• in economics and finance, a risk-seeker or risk-lover is a person
who has a preference for risk. While most investors are
considered risk averse, one could view casino-goers as risk-
seeking. 
• An investor who is willing to take big risks to increase the
potential return on investments.
• Risk lover is a person who is willing to take more risks while
investing in order to earn higher returns. When it comes to
taking risk for earning returns, different people have different
attitudes.
• For example, a risk lover would be more likely to invest in the
IPO of a company with a new and exciting product about which
little is known, than to invest in the secured bond issued by a
company everyone knows and trusts.
What is Risk-Return Trade-off?

• The risk-return tradeoff states that the potential

return rises with an increase in risk.
• Using this principle, individuals associate low
levels of uncertainty with low potential returns,
and high levels of uncertainty or risk with high
potential returns.
• According to the risk-return tradeoff, invested
money can render higher profits only if the
investor will accept a higher possibility of losses.
risk-averse individual
• The opposite of a risk-seeking person
•  Risk-averse people prefer certainty – they don’t like betting on
uncertain outcomes. Risk-averse people live by the idiom: “A
bird in the hand is worth two in the bush.”
A risk-tolerant investor
• will seek more of a balance between stability and risk, and will
include more fixed income and value stocks in his or her
portfolio.
A risk-neutral person 
• is completely insensitive to risk. He or she is only interested in
the potential return, and ignores the potential losses or risks
completely.
Initial public offering (IPO)
• or stock market launch is a type of public offering in which shares
of a company are sold to institutional investors and usually also
retail (individual) investors; an IPO is underwritten by one or
more investment banks, who also arrange for the shares to be
listed on one or more stock 
Marginal utility
•  quantifies the added satisfaction that a consumer garners from
consuming additional units of goods or services. The concept
of marginal utility is used by economists to determine how much
of an item consumers are willing to purchase.
Risk-Return Trade-off continued …………………

• The risk-return tradeoff states that the potential return rises with an increase
in risk. 
• Using this principle, individuals associate low levels of uncertainty with low
potential returns, and high levels of uncertainty or risk with high potential
returns.
• According to the risk-return tradeoff, invested money can render higher
profits only if the investor will accept a higher possibility of losses.
Understanding Risk-Return Tradeoff
• The risk-return tradeoff is the trading principle that links
high risk with high reward.
• The appropriate risk-return tradeoff depends on a variety
of factors including an investor’s risk tolerance, the
investor’s years to retirement and the potential to replace
lost funds. 
• Time also plays an essential role in determining a
portfolio with the appropriate levels of risk and reward.
- For example, if an investor has the ability to invest in equities over
the long term, that provides the investor with the potential to recover
from the risks of bear markets and participate in bull markets (a
market in which share prices are rising, encouraging buying), while if
an investor can only invest in a short time frame, the same equities
have a higher risk proposition.
A PORTFOLIO

•  is a grouping of financial assets such as stocks,

bonds, commodities, currencies and cash
equivalents, as well as their fund counterparts,
including mutual, exchange-traded and closed
funds.
• Portfolios are held directly by investors and/or
managed by financial professionals and money
managers.
CONCLUSION ABOUT RISK-RETURN TRADE-OFF :

• The risk-return tradeoff is an investment

principle that indicates that the higher the risk,
the higher the potential reward.
• To calculate an appropriate risk-return tradeoff,
investors must consider many factors, including
overall risk tolerance, the potential to replace
lost funds and more.
• Investors consider the risk-return tradeoff on
individual investments and across portfolios
when making investment decisions.
 APPLICATION:
Explain the image below. Discuss to the class.
PICTURE ANALYSIS:
 RISK UNCERTAINTY
- an aspect of action - is a potential,
taken in spite unpredictable, and
of uncertainty. uncont uncontrollable
rollable outcome outcome
 
Vocabularies:

volatile meaning: 1. likely to change suddenly and

unexpectedly, especially by getting worse
Application:
Choose one line/ phrase below about risk and explain.
Reference:

https://www.slideshare.net/nagajyothi334/risk-return-trade-off-75133854
https://en.wikipedia.org/wiki/Risk_aversion