Loading the player...

What is 'Systematic Risk'

Systematic risk is the risk inherent to the entire market or market segment. Systematic risk, also known as “undiversifiable risk,” “volatility,” or “market risk,” affects the overall market, not just a particular stock or industry. This type of risk is both unpredictable and impossible to completely avoid. It cannot be mitigated through diversification, only through hedging or by using the correct asset allocation strategy.

BREAKING DOWN 'Systematic Risk'

Systematic risk underlies other investment risks, such as industry risk. If an investor has placed too much emphasis on cybersecurity stocks, for example, she/he can diversify this by investing in a range of stocks in other sectors, such as healthcare and infrastructure. Systematic risk, however, incorporates interest rate changes, inflation, recessions and wars, among other major changes. Shifts in these domains have the ability to affect the entire market and cannot be mitigated by changing around positions within a portfolio of public equities.

To help manage systematic risk, investors should ensure that their portfolios include a variety of asset classes, such as fixed income and cash, each of which will react differently in the event of a major systemic change. An increase in interest rates, for example, will make some new issue bonds more valuable, while causing some company stocks to decrease in price as investors perceive executive teams to be cutting back on spending. In the event of an interest rate rise, ensuring a portfolio incorporates ample income-generating securities will mitigate the loss of value in some equities.

Systematic Risk and the Great Recession

The Great Recession also provides an example of systematic risk. Anyone who was invested in the market in 2008 saw the values of their investments change drastically from this economic event. The Great Recession affected asset classes in different ways as riskier securities (e.g. those, which were more leveraged) were sold off in large quantities, while simpler assets, such as U.S. Treasury Bonds, became more valuable.

If you want to know how much systematic risk a particular security, fund or portfolio has, you can look at its beta, which measures how volatile that investment is compared to the overall market. A beta of greater than 1 means the investment has more systematic risk than the market, while less than 1 means less systematic risk than the market. A beta equal to one means the same systematic risk as the market.

The opposite of systematic risk, unsystematic risk affects a very specific group of securities or an individual security. Unsystematic risk can be mitigated through diversification.

RELATED TERMS
  1. Systematic Manager

    A systematic manager adjusts a portfolio’s long- and short-term ...
  2. Idiosyncratic Risk

    Idiosyncratic risk refers to factors that impact a particular ...
  3. Unsystematic Risk

    Unsystematic risk is unique to a specific company or industry ...
  4. Operational Risk

    Operational risk summarizes the risks a company undertakes when ...
  5. Systematic Withdrawal Plan - SWP

    A systematic withdrawal plan (SWP) is a scheduled investment ...
  6. Business Risk

    Business risk is the possibility a company will have lower than ...
Related Articles
  1. Investing

    How To Manage Portfolio Risk

    Follow these tips to successfully manage portfolio risk.
  2. Investing

    Understand Risk Before You Diversify

    Before investors can use diversification to maximize investment returns, they need to understand unsystematic risk and systematic risk.
  3. Managing Wealth

    Offset Risk With Options, Futures And Hedge Funds

    Though all portfolios contain some risk, there are ways to lower it. Find out how.
  4. Investing

    How to Diversify Your Portfolio Beyond Stocks

    Find out how to get diversified in asset classes beyond stocks to reduce portfolio risk. Learn how diversification can help you reach your financial goals.
  5. Investing

    The Capital Asset Pricing Model: an Overview

    CAPM helps you determine what return you deserve for putting your money at risk.
  6. Personal Finance

    Risk Management Framework (RMF): An Overview

    A company must identify the type of risks it is taking, as well as measure, report on, and set systems in place to manage and limit, those risks.
  7. Managing Wealth

    The Bucket Strategy vs. Systematic Withdrawals: A Comparison

    The bucket strategy and systematic withdrawal strategy are similar in theory but differ greatly in practice. Here's a comparison.
  8. Investing

    Is Apple's Stock Over Valued Or Undervalued?

    Despite several drawbacks, the CAPM gives an overview of the level of return that investors should expect for bearing only systematic risk. Applying Apple, we get annual expected return of about ...
  9. Financial Advisor

    Example of Applying Modern Portfolio Theory (MPS)

    Modern Portfolio Theory: brush up on key mathematical framework used in investment portfolio construction.
RELATED FAQS
  1. How does market risk differ from specific risk?

    Learn about market risk, specific risk, hedging and diversification, and how the market risk of assets differs from the specific ... Read Answer >>
  2. What are the primary sources of market risk?

    Learn about market risk and the four primary sources of market risk including equity, interest rate, foreign exchange and ... Read Answer >>
  3. Financial Risk vs Business Risk

    Understand the key differences between a company's financial risk and its business risk – along with some of the factors ... Read Answer >>
  4. What are the advantages and disadvantages of using systematic sampling?

    Learn about the primary advantages and disadvantages of using a systematic sampling method when conducting research of a ... Read Answer >>
  5. How is the Capital Asset Pricing Model (CAPM) represented in the Security Market ...

    Learn about the capital asset pricing model and the security market line and how the model is used in the calculation and ... Read Answer >>
Hot Definitions
  1. Diversification

    Diversification is the strategy of investing in a variety of securities in order to lower the risk involved with putting ...
  2. Intrinsic Value

    Intrinsic value is the perceived or calculated value of a company, including tangible and intangible factors, and may differ ...
  3. Current Assets

    Current assets is a balance sheet item that represents the value of all assets that can reasonably expected to be converted ...
  4. Volatility

    Volatility measures how much the price of a security, derivative, or index fluctuates.
  5. Money Market

    The money market is a segment of the financial market in which financial instruments with high liquidity and very short maturities ...
  6. Cost of Debt

    Cost of debt is the effective rate that a company pays on its current debt as part of its capital structure.
Trading Center