Risk-Return Trade-Off

Risk-return trade-off

The tendency for potential risk to vary directly with potential return, so that the more risk involved, the greater the potential return, and vice versa.

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Risk-Return Trade-Off

What Does Risk-Return Trade-Off Mean?

The principle that potential return rises with an increase in risk. Low levels of uncertainty (low risk) are associated with low potential returns, whereas high levels of uncertainty (high risk) are associated with high potential returns. According to the risk-return trade-off, invested money can render higher profits only if it is subject to the possibility of being lost.

Investopedia explains Risk-Return Trade-Off

Because of the risk-return trade-off, investors must recognize their personal risk tolerance when choosing investments. Taking on additional risk is the price of achieving potentially higher returns; therefore, if an investor wants to make money, he or she cannot cut out all risk. The goal instead is to find an appropriate balance that generates some profit but allows the investor to sleep at night.

Related Terms:
• Modern Portfolio Theory—MPT
• Opportunity Cost
• Return
• Risk
• Risk-Free Rate of Return