Investing is a game that involves balancing the risk and reward of the thing you're investing it. However, there are some investments that are much riskier than others. And these are investments that you should really think carefully about before jumping in. Because, even though they're risky, when they do yield rewards, the rewards are typically large! So, here are the riskiest investments you can make.
1. Leveraged ETFs
The first risky investment is the class of ETFs and ETNs that are leveraged. These are incredibly risky investments because leveraged ETFs don't match market performance, and as a result, it can be incredibly difficult to predict long term returns. These investments are popular among day traders because they only follow the single day price movement of the index they are seeking to double or triple. As a result, over time, the price movement will just not match. Invest in leverage ETFs carefully because realize that they are designed to be short term investments
2. Penny Stocks
Penny stocks are typically classified as any stock that trades under $1. Many individuals see the low price as a possible deal, but in reality, penny stocks are cheap because they aren't worth it. These stocks have crashed in value because the fundamentals of the companies are in shambles. Most of these companies are start-ups or other ventures that have little capital and a small chance of success. Another problem with penny stocks are that they are a big source of investment fraud.
The biggest problems with these stocks are liquidity, transparency, and as a result, fraud. These stocks are common victims of pump and dump schemes, because so few shares trade, it is easy to jack up the price, profit, and watch other investors take a loss.
3. Emerging Markets
Emerging markets have been incredibly popular over the last few years, and the returns from investments in these markets have typically been great. However, investing in emerging markets (or developing countries) can be incredibly risky. First, the political climate and financial stability of many developing countries is not certain. These counties are developing – which means that they can change at any time. They don't have long track records of financial stability, and they may not even have stable laws or courts to regulate business.
Another big issue with emerging markets is the lack of information for American investors. Unlike reading the New York Times, it is nearly impossible for American investors to gain access to financial and political information from developing countries. As such, it is impossible to really know what is going on in emerging markets. Plus, even the regulatory agencies that are supposed to provide this information typically have incentives to not be accurate. All of this plagues investors.
4. IPOs
Finally, investing in an IPO is incredibly risky. IPOs offer great opportunities for investors – get in on the ground floor of a company. Just imagine if you were invested in Amazon or Apple during their IPO. You would have seen a 1000%+ return on your investment. However, most IPOs don't go like that for investors. In fact, 80% of IPOs trade below their IPO price within their first five years. If you're considering investing in an IPO, really understand the fundamentals of the company and decide if this first wave of investing is right for you. If you like the company, a better bet may be to invest after the lock-up period of the IPO expires and the insiders that have been waiting to sell finalize their transactions. This eliminates much of the early price movements.
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Would you add options and commodity futures to that list?
I didn’t include those because I view those as pretty fixed risk/return investments, where the ones above are very unpredictable.
I don’t mind having a small portion of my portfolio in emerging markets, however I do avoid the rest of those. I didn’t know much about leveraged ETFs until JT (I think) posted on it the other day. Superb information. (Yes…I’m pumped that I just used superb. haha)
I haven’t invested in any of those. Just investing in dividend stocks is enough risk for me.
#1 Leveraged ETFs, #2 Penny Stocks, and #4 IPO’s should be in very few investor portfolios. I think #3 Emerging Markets, does not belong on this list. Most portfolios should have at least a little exposure to emerging markets.
I should clarify on Emerging Markets: I mean buying individual stocks in emerging markets. I agree that emerging markets play a part, but American investors should do it through mutual funds or ETFs. You can buy individual stocks in these countries through several brokers, but the costs are high, and the research and information is low. Leave it to the professionals.
I agree with Ken and with Robert’s response regarding emerging markets.
IPOs are a complete sucker’s game in my opinion for individual investors, just witness Facebook as a prime example. For every IPO like Google, there is a Facebook or Groupon. At the end of the day IPOs are a strategy to make money for the firm’s owners, some early and key employees, and the investment bankers. IPO buyers are the suppliers of the money that allows the first group to profit.
I would add
5. hedge funds
6. private equity
7. fund of funds
8. private investment partnership
9. structure products
Anything you don’t know what’s going on and not regulated by the SEC are risky.
Very good call on those products. I left many of those out because you have to be an accredited investor to invest, which doesn’t apply to many people. With these risky investments, anyone can invest, which makes it more dangerous.
My father had a big problem with penny stocks. What is your thought on the risk? Do you personally take risks like these knowing you could strike it rich?
I avoid investments like these. Maybe someday if I had a little extra to play around with I would try it, but only if I could treat it like a trip to a casino!
I avoid these products at all costs. I do own an emerging markets mutual fund, but I would never invest in individual emerging market stocks. The risk is too great compared to the average return.
But IPO’s are so SEXY! 😉
I agree here, these are all a bit too risky for my taste as well. I’m more of a tortoise when investing, though I haven’t done much of it lately.
IPOs are sexy, but that’s the problem – they entice too many people who ignore the risks.
IPO stands for “It’s Probably Overpriced”…remembers the insiders are often getting out in a big way on the day of the IPO… just so you are warned.
I would tend to agree with all but the emerging markets. Not this is not a risky asset class but it is not one that I would automatically avoid. In my opinion best to invest here via a mutual fund or ETF and certainly this is not a core asset class either.