How is market risk defined?

Market risk is defined as the risk of losses in financial investments due to market fluctuations. This encompasses the variability in the prices of assets caused by changes in market conditions, such as economic shifts, changes in interest rates, political instability, or other factors that can influence investor sentiment and market dynamics.

Market risk is inherent in all types of financial investments, including stocks, bonds, commodities, and derivatives. Unlike specific risks that affect particular companies or sectors, market risk affects the entire market or a broad range of financial instruments, which means that it cannot be entirely eliminated through diversification.

Understanding market risk is crucial for investors and financial institutions, as it helps them to assess potential losses and to develop strategies such as hedging to mitigate its impact on their portfolios. Recognizing that market fluctuations can lead to significant gains or losses is fundamental to effective risk management in investment practices.