There are many ways to evaluate risk when making an investment. Some typical strategies include a percentage of bonds in your portfolio compared to stocks based on your age. Some people think that a large company means less risk. I like to look at risk from a different point of view.

risk n. The possibility of suffering harm or loss. This is the definition of risk. When you buy a stock you are risking 100% of your investment. It doesn’t matter what type of stock that you buy, any company can go out of business. When making an investment decision I like to look at the possible return on the money that I am risking. If I am going to risk 100% of my money I want a possible return of over 100%.

For example lets look at Coca-Cola (NASDAQ:COKE). I do not own any shares of COKE nor did they pay me to discuss them. If I wanted to invest in COKE I would have to worry about the price of corn syrup, aluminum, advertising rates, in addition to earnings, competition, and PE ratio. If everything goes in my favor the stock might go up 30%. I don’t want to risk 100% of my money for a 30% return because that seems risky. Not that COKE is a bad investment; large companies like this are risky from my point of view.

I would rather find a smaller company that could possibly triple in value. That way 100% risk might turn into a massive return on my money. If I spread my money around to a half dozen companies that are likely to triple I could afford one of my companies to go under.

It is always important to do your homework before making an investment decision. Finding out everything that you can about a company allows you to stay away from questionable companies reducing the possibility of suffering harm or loss. You can also reduce risk by staying away from investments that are at an all time high (like real estate right now). Look to invest in sectors that are at an all time low and sell when they are at an all time high.

When investing in a particular company you are risking your money by speculating on the future. Speculating is not a 100% accurate; there is always the chance for the unseen to occur. To reduce risk, only speculate with money that you can afford to lose.