Risks Associated with Bank Loan

bank loan

money loan

There are numerous risks associated with bank loan and those who give them and take them. Before one can understand what the risks associated with bank loan are, one must understand what exactly risk is. Risk is the possibility of an event to occur – which could be favorable or unfavorable when trying to achieve an objective that is monetary in nature. There are many such risks when it comes to bank loan. These include:

•    Credit risk
•    Interest rate risk
•    Liquidity risk

bank overdraft

Risk is present in all the actions that we carry out and not just bank loan. However, the risk of you ruining your new hairdo on a rainy day is less significant than the one involved in bank loan. For example credit risk means that the borrower will not be able to pay back the loan that he/she has taken out. Interest rate risk is the risk that the interest is far too low to earn a profit for the bank.

car loan

Finally, liquidity risk is the shortage of cash with the bank. This can happen when too many withdrawals of deposits take place at the same time in a bank. These risks are far greater when comparing them with other kinds of risks.

business loan

In business, the general rule is that the greater the risk, the greater the return. There is an inverse relationship between risk and return. An example of this is Treasury bills for they are easy to obtain at a low price but the rate of return that you can expect on such a bill will be below 5% annually. This makes them reliable and stable but not the most profit maximizing financial instrument available.

business plan

An example of a financial instrument that has a chance of making higher profits is stock market investments. However, these involve higher risks too for the stock market is unpredictable and one can never know which way a particular stock you have invested in might turn. This can also sometimes lead to major losses. With any investment, risk and the return are two things that are always considered.