The main difference between risk and uncertainty is that risk is measurable while uncertainty is not measurable or predictable.
Risk and uncertainty are two important terms in the world of finance and business. Although some tend to use these two terms interchangeably, there is a distinct difference between risk and uncertainty. Risk is the chance that an investment’s actual outcome will differ from the expected outcome, while uncertainty is the lack of certainty about an event.
Key Areas Covered
1. What is Risk
– Definition, Features
2. What is Uncertainty
– Definition, Features
3. Difference Between Risk and Uncertainty
– Comparison of Key Differences
Key Terms
Risk, Systematic Risk, Uncertainty, Unsystematic Risk
What is Risk
Risk is basically the possibility of something bad happening. In business and finance, the risk is the chance that an investment’s actual outcome will differ from the expected outcome. Risks can include the possibility of losing all or some of the original investment in a business. However, risk can be calculated to some extent using historical data and market factors. It’s also important to note that the higher the risk an investor is willing to take, the greater the protentional return. No investment is free of risks, but there are some investments that have lower practical risks than others.
There are two main types of financial risk; they are systematic risks and unsystematic risks. Systematic risk can affect the entire economic market or a larger part of the market. This involves interest rate risk, inflation risk, sociopolitical risk, and currency risk. Unsystematic risks, on the other hand, are a type of risk that only affects a specific company or industry. This can be due to a change in management, new competitors in the market, regulatory changes that would affect sales, a product recall, etc.
What is Uncertainty
Uncertainty is basically a lack of certainty about an event. In finance and business, uncertainty implies that there is an inability to predict outcomes or consequences due to some lack of knowledge or data, which makes it impossible to make predictions. There can be multiple possible outcomes, but the possible outcomes are also not certain. COVID 19 pandemic situation is an example of making decisions under uncertainty. When the pandemic first hit, there was a lot of uncertainty – we didn’t know how to safeguard ourselves, how to continue our daily routine, etc.
Uncertainty is different from risk in that risk can be measured and quantified in advance from historical data. Therefore, risk is easier to manage, especially if we observe proper measures. We can insure against risks, but not against uncertainties.
Difference Between Risk and Uncertainty
Definition
Risk is the chance that an investment’s actual outcome will differ from the expected outcome, while uncertainty is the lack of certainty about an event.
Potential Outcomes
In risk, potential outcomes are known, but in uncertainty, potential outcomes are unknown.
Measurement
Risks can be measured and quantified using theoretical models, but uncertainty cannot be measured.
Control
Moreover, risks can be controlled if proper measures are taken at the right time; however, uncertainty is beyond control.
Conclusion
Risk is the chance that an investment’s actual outcome will differ from the expected outcome, while uncertainty is the lack of certainty about an event. The main difference between risk and uncertainty is that risk is measurable while uncertainty is not measurable or predictable.
Reference:
1. Chen, James. “Risk.” Investopedia.
2. “Uncertainty – Definition, Example, and Role in Investing.” Corporate Finance Institute.
Image Courtesy:
1. “Investing-risk-control-insurance-4013413” (CC0) via Pixabay
2. “Confused-overthinking-question-mark-5503317” (CC0) via Pixabay
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