Dale Jackson

Personal Finance Columnist, Payback Time

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ANALYSIS: It’s the golden rule of investing: risk brings rewards. Everyone knows investing has risks, but knowing the degree of risk can give any investor an advantage.

That knowledge can also help diversify risk in a portfolio to keep investments as safe as possible without sacrificing opportunity to make gains.

Here are three risk indicators that could help you make better investment decisions:

Beta

Beta is a formula devised to compare risk in a single security to the broader markets over the longer term. Mutual funds will often include a beta reading in its description to measure it against its benchmark, or other funds in its asset class.

The beta on the broader index is measured as 1. A beta below 1 indicates lower volatility. A beta above 1 indicates higher volatility.

Volatility Index

A good medium-term indicator of risk in the broader markets is the Chicago Board Options Exchange Volatility index, or VIX.

The VIX measures the implied volatility of a variety of S&P 500 index options. Options, like calls and puts, are basically bets on where the underlying S&P 500 companies are heading. In other words, the options market is telling everyone where it thinks the stock market is heading.

You don’t need to trade options to benefit from the VIX. Its position today suggests what volatility will be like for the next 30 days.

Futures Market

The futures market can shed light on how the stock market will trade today. Those same calls and puts trade around the clock and price stocks ahead of the market open.

The options market can respond to events that occur when North American markets are closed. If, for example, a terrorist bombing occurs overnight the options market could devalue airline stocks.

While the price of a stock doesn’t change when the stock market is closed, the futures market could tell you if there is upward or downward pressure on it when the opening bell rings.