Systematic Risk Vs Unsystematic Risk
Systematic Risk – Systematic risks affects all the industries operating under a single domain on a macro level and can’t possibly be avoided by any individual industry by suitable measure,it is due to the influence of external factors on an organization such as interest rate risks,market risk,purchasing power or inflationary risk. It cannot be planned by the organization. It is the fluctuations in the market called the volatility which can be avoided as they are industry specific such as strikes in an industry, management problems.
Beta is a measure of the volatility, or systematic risk, of a security or a portfolio in comparison to the market as a whole. Beta gives a sense of a stock’s market risk compared to the greater market. Beta is also used to compare a stock’s market risk to that of other stocks. Beta is used in the capital asset pricing model.
Beta is calculated using the regression analysis,beta is the tendency of a security’s returns to respond to the changes in the market . A beta of 1 indicates that the security’s price will move with the market. A beta of less than 1 means that the security will be less volatile than the market. A beta of greater than 1 indicates that the security’s price will be more volatile than the market. For example, if a stock’s beta is 1.2, it’s theoretically 20% more volatile than the market.
UNSYSTEMATIC RISK – Unsystematic risk is due to the influence of internal factors prevailing within an organization. Such factors are normally controllable from an organization’s point of view.
It is micro in nature as it affects only a particular organization. It can be planned, so that necessary actions can be taken by the organization to mitigate (reduce the effect of) the risk.
The types of unsystematic risk are Business or liquidity risk , Financial or credit risk and Operational risk.Unique to a certain asset or a company .examples could be possibility of poor earnings of a company or strikes in a company.These types of risks can be mitigated by buying different securities in the same industry or by buying in different industries.For example an oil company may have the risk of drilling less pr no oil during any given year.The investor may mitigate the risk by investing in stocks in different oil companies as well as companies not involved with oil drilling.Non systematic risks are called diversifiable risk .