Investment risk is defined as the variability of actual returns from expected returns. The greater the variability of the returns, either positive or negative, the greater the risk. The variance and the standard deviation of a set of possible outcomes measure the degree to which all of the possible outcomes vary from their mean, or weighted average. Therefore, the risk of an investment is measured by the variance and the standard deviation of its expected returns.
Expected return is the weighted average of all the possible returns from an investment. It does not provide any measurement of the investment's risk, however.
The expected return of an investment with a normal distribution is the mean (or average) of the distribution. However, that is not a measurement of the investment's risk.
Risk can be classified as either pure risk or speculative risk. Pure risk is defined as the chance that an unwanted and detrimental (harmful) event will take place . Insurance is designed to address pure risk, because pure risk yields only a loss. Because investments have the possibility (or even an expectation) of return, pure risk is not the risk that we are concerned with in investing. In investments, the risk is the second classification of risk – speculative risk. In investing, speculative risk is defined as the variability of actual returns from expected returns , and this variability may be either a gain or a loss.
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