What does 'financial risk' refer to?

Financial risk specifically refers to the potential to lose money on investments. This encompasses various types of risks associated with investing, such as market volatility, credit risk, and liquidity risk, all of which can lead to a decrease in an investor's capital. Investors face this risk when they allocate funds to assets like stocks, bonds, or real estate, as the value of these investments can fluctuate based on market conditions, company performance, or changes in the economic landscape.

Understanding financial risk is crucial for effective investment decision-making, as it helps individuals gauge the likelihood of experiencing losses and manage their portfolios accordingly. This concept emphasizes the importance of balancing potential rewards with the risks taken, as higher returns typically come with increased financial risk.