What Is Risk?
With respect to investments, risk is simply the chance that your original investment will not grow as expected, or will even decline in value. All investments involve some level of risk. When deciding how to invest your savings, it is important to understand the risks associated with any potential investment to decide if it suits your overall goals and circumstances.
What Is Return?
Return is the amount you earn on your original investment. Return can take many forms, including interest, dividends, and capital appreciation (increase in value). Return is usually expressed as a percentage — typically a rate of interest or a percentage increase in value.
Two factors can significantly affect your return. One is income tax, which reduces the amount of your return. For a taxpayer in the 25% tax bracket*, an investment return of 8% is only 6% after taxes. This is why deferring taxation until retirement (when you may have less income and be in a lower tax bracket) is such an important advantage of the Northrop Grumman Savings Plan.
The other factor is inflation, which reduces the value of your return. When inflation is 3% annually, an investment return of 8% has a purchasing value of 5%.
When you factor in both income taxes and inflation (using the figures in the examples above), an investment return of 8% yields a real after-tax return of 3% (8% return on investment – 2% for income taxes – 3% inflation rate).
What Is The Relationship Between Risk And Return?
Risk and return are directly related. The greater the risk of the investment, the greater the potential return from that investment. Conversely, with very safe, low-risk investments, the return will likely be low.
The basic principle is this: To be willing to accept the risk that an investment could do poorly, investors must be compensated with the potential for greater return.
* Under current federal tax law, certain types of taxable income, such as long-term capital gains and qualified dividends, may be taxed at lower rates. If you need assistance determining your tax bracket for federal, state, and local income tax purposes for each type of investment income, please consult your tax advisor.
This Investment Center includes links to tools and information provided by organizations that are not associated or affiliated with Northrop Grumman. The tools and information provided by these organizations are not the property of Northrop Grumman, and Northrop Grumman is not responsible for their accuracy, completeness, or continued availability. You are solely responsible for the investment and asset allocation decisions you make pertaining to your personal savings and investments, including investments in the Northrop Grumman Savings Plan, Financial Security and Savings Program, and any other savings plans sponsored by Northrop Grumman.