Idiosyncratic Risk

AAA

DEFINITION of 'Idiosyncratic Risk'

Risk that is specific to an asset or a small group of assets. Idiosyncratic risk has little or no correlation with market risk, and can therefore be substantially mitigated or eliminated from a portfolio by using adequate diversification. Research suggests that idiosyncratic risk, rather than market risk, accounts for most of the variation in the risk of an individual stock over time. Similar to unsystematic risk.

INVESTOPEDIA EXPLAINS 'Idiosyncratic Risk'

Since idiosyncratic risk is by definition generally unpredictable, investors should seek to minimize its negative impact on a portfolio by diversification or hedging.

For example, the risk of a pipeline company incurring massive damages because of an oil spill can be mitigated by investing in a broad cross-section of stocks within the portfolio.

As another example, consider a mining exploration company that is operating in a nation where the risk of nationalization is fairly high. This risk can be diversified either by investing in other mining companies that do not operate in the same nation, or can be hedged through the use of options or other hedging instruments.

RELATED TERMS
  1. Unsystematic Risk

    Company or industry specific risk that is inherent in each investment. ...
  2. Asymmetric Volatility Phenomenon ...

    The asymmetric volatility phenomenon (sometimes known as AVP) ...
  3. Time-Period Basis

    An implication surrounding the use of time-series data in which ...
  4. Diversification

    A risk management technique that mixes a wide variety of investments ...
  5. Investment Income Ratio

    The ratio of an insurance company’s net investment income to ...
  6. Adjustable Feature

    Contract language that allows adjustments to be made to the premium ...
Related Articles
  1. thinkstock|itock
    Investing Basics

    Determining Risk And The Risk Pyramid

    Many investors do not understand how to determine the risk level their individual portfolios should bear.
  2. Investing Basics

    Introduction To Investment Diversification

    Reducing risk and increasing returns in your portfolio is all about finding the right balance.
  3. Options & Futures

    Bettering Your Portfolio With Alpha And Beta

    Increase your returns by creating the right balance of both these risk measures.
  4. Options & Futures

    Currency ETFs Simplify Forex Trades

    Reduce your stock portfolio's risk by trading with foreign currencies.
  5. Options & Futures

    Adding Alpha Without Adding Risk

    Learn how to generate higher returns in your portfolio while keeping the same risk profile.
  6. Options & Futures

    What is the difference between systemic risk and systematic risk?

    Systemic risk is generally used in reference to an event that can trigger a collapse in a certain industry or economy, whereas systematic risk refers to overall market risk. Systemic risk does ...
  7. Retirement

    Risk And Diversification

    Safeguarding your portfolio involves a few simple steps.
  8. Active Trading Fundamentals

    What is liquidity risk?

    Learn how to distinguish between the two broad types of financial liquidity risk: funding liquidity risk and market liquidity risk.
  9. Investing

    What are the risks associated with investing in telecommunication stocks

    Read about some of the risks associated with investing in telecommunication stocks, including several that are specific to the telecom industry.
  10. Active Trading Fundamentals

    What does the gearing ratio say about risk?

    Find out why lenders and investors pay close attention to a firm's gearing ratios, and why both too much and too little borrowing can be risky.

You May Also Like

Hot Definitions
  1. Multinational Corporation - MNC

    A corporation that has its facilities and other assets in at least one country other than its home country. Such companies ...
  2. SWOT Analysis

    A tool that identifies the strengths, weaknesses, opportunities and threats of an organization. Specifically, SWOT is a basic, ...
  3. Simple Interest

    A quick method of calculating the interest charge on a loan. Simple interest is determined by multiplying the interest rate ...
  4. Special Administrative Region - SAR

    Unique geographical areas with a high degree of autonomy set up by the People's Republic of China. The Special Administrative ...
  5. Annual Percentage Rate - APR

    The annual rate that is charged for borrowing (or made by investing), expressed as a single percentage number that represents ...
  6. Free Carrier - FCA

    A trade term requiring the seller to deliver goods to a named airport, terminal, or other place where the carrier operates. ...
Trading Center