8 Pages
1992 Words
Introduction: Applying Financial Theories To Investment Decisions
Financial decisions have a significant role in both professional and personal spheres, serving as a fundamental element of our everyday existence (Talentedge, 2018). The cultivation of financial literacy holds significant importance in shaping our future, comprising a diverse array of choices ranging from fundamental budgeting and saving practices to more complex considerations such as investment strategies and financial planning. This investigation aims to delve more into the intricate network of financial concepts and theories that have influenced the decision-making process. Furthermore, an examination has been conducted to identify the process by which these theoretical foundations have been promoted and applicable knowledge. During the process of self-reflection, I intend to focus on the concepts of diversification and the risk-return tradeoff, which have played crucial roles in shaping my financial journey.
Thesis statement
This study demonstrates the transformation of different uncertainty into a calculated and educated choice through a thoughtful investigation of a personal financial decision. The application of financial principles, including diversification and the risk-return tradeoff is related to crucial in this process.
Reporting and Responding
Chronological Story of My Financial Decision Experience
My plan to invest in the stock market requires that I first conduct adequate research in the financial sector (St. Louis Fed.org, 2019). My initial reaction was one of apprehension and eagerness since, at the same time that I became aware of the potential for monetary expansion, I was also made aware of the risks that were linked with the situation. I began the process by conducting an in-depth study on many potential investment avenues so that I could make a decision that was well-informed and supported by evidence. I have undertaken a comprehensive examination of the financial statements of various corporate entities, with particular emphasis on the balance sheets, income statements, and cash flow statements of each respective organization.
Hence, it can be stated that the financial statements furnish crucial information about the financial well-being, revenue generation, profitability, and solvency of the company (Qadri et al., 2023). Moreover, a comprehensive analysis of financial records has been undertaken, encompassing a meticulous review of balance sheets, income statements, and cash flow statements. The financial documents constituted the principal basis for my investigation, furnishing crucial insights into the financial condition of the entities. Ratio analysis has been employed to understand a more focused assessment of the financial health of these entities.
According to Harinurdin (2023), the decision-making process has been influenced by the incorporation of important financial indicators, including the price-to-earnings (P/E) ratio, debt-to-equity ratio, and return on equity (ROE). The application of these ratios is related to the assessment of several aspects such as value, leverage, and profitability. The principle of the risk-return tradeoff has been providing an adequate framework throughout the entirety of this procedure. I conducted a thorough assessment of my risk tolerance, acknowledging that engaging in stock investments inevitably entails unpredictability and market volatility. To achieve a harmonious blend of conservative and growth-oriented assets, I tried to align my investment decisions with my risk tolerance.
As I started the task of undertaking a substantial financial investment, a surge of energy and anxiety influenced my cognitive and emotional capabilities. The fluctuation of emotions experienced can be ascribed to the fusion of theoretical constructs and practical ramifications observed throughout my academic pursuit in the field of finance.
The enthusiasm emerged from the anticipation of observing the gradual accumulation of my funds and making progress towards my overarching financial objectives. The view that informed decision-making, a concept emphasized in finance courses, was the foundation for the notion that it may result in favourable outcomes (Feyen et al., 2021). This perspective is consistent with the rational choice theory, a theoretical framework positing that individuals make decisions based on their desire to maximize their utility, ly in terms of financial advancement. The initial thoughts and feelings experienced by the individual are provided as a poignant reminder of the substantial influence exerted by financial theories on our decision-making processes (Feyen et al., 2021). They motivated me to further explore financial analysis, employ diversification measures, and ensure that my investment decisions aligned with my risk tolerance. The aforementioned emotions served as causes for a smart financial decision that was based on both theoretical knowledge and practical considerations.
Relating
In both instances, a shared element of excitement and discomfort was evident. The excitement developed due to the possibility of economic expansion and the attainment of enduring objectives, which remained constant. Furthermore, the recurring theme of the risk-return tradeoff concept was underscored, highlighting the notion that elevated profits are accompanied by heightened levels of risk (Econlib, 2019). This approach applies to both scenarios and, therefore, emphasises the continual use of risk assessment in my financial decision-making process. There were notable disparities in the conditions between the two encounters. The prior experience entailed deciding lesser complexity, such as the selection of a savings account or the choice between investment options characterized by lower levels of risk. The present experience was characterized by a higher level of complexity, requiring a thorough examination of specific equities, implementation of diversification tactics, and continuous oversight of the portfolio (Econlib, 2019). The decision's complexities and the level of risk were significantly higher.
In prior instances, possessing a fundamental knowledge of financial literacy and a comprehension of interest rates proved satisfactory in facilitating prudent decision-making. Nevertheless, the current investment decision necessitated the utilization of a more extensive array of financial knowledge and talents. The aforementioned components encompassed financial statement analysis, ratio assessment, risk management, and diversification techniques. Furthermore, a thorough understanding of the risk-return tradeoff and a realistic evaluation of my risk tolerance were essential factors.
Reasoning
The recurrent motif of the risk-return tradeoff served as a pivotal nexus between both encounters (Anarkulova, 2022). The significance of achieving a balance between prospective profits and risk exposure was emphasized. Moreover, the latest encounter significantly relied on concepts such as diversification, financial statement analysis, and risk assessment, which were comparatively less prominent in the preceding, less complex financial decisions (Lusardi, 2019).
These comparisons highlight the correlation between the complexity of a financial issue and the level of financial knowledge and abilities necessary for effective decision-making (Consumer Financial Protection Bureau, 2019). Although a rudimentary understanding of financial literacy may be enough for certain decision-making situations, more complex circumstances necessitate a more comprehensive set of skills and knowledge that fit with fundamental concepts and theories derived from the field of finance.
Reconstructing
Based on personal experience, several significant lessons have been acquired that can potentially impact future financial decision-making. Firstly, the importance of conducting thorough research and analysis cannot be overstated. In the future, I will persist in allocating time towards the examination of financial statements, evaluation of ratios, and comprehension of the financial well-being of corporations before formulating investment choices. Adopting a careful strategy can effectively reduce risks and increase the probability of achieving favourable outcomes.
Furthermore, the importance of diversification as a key risk management technique has been reconfirmed (Moonfare.com, 2023). I intend to uphold a diversified investment portfolio strategy, wherein I will allocate my assets across multiple sectors and industries to mitigate the potential effects of market volatility. The Finance for Managers course has been crucial in providing me with the necessary information and abilities to make well-informed financial decisions. The program has equipped me with a solid grounding in the areas of financial analysis, risk assessment, and portfolio management. The concepts and theories presented in this course, including the risk-return tradeoff, diversification, and financial statement analysis, have proven to be directly relevant to my practical financial decision-making (Accaglobal.com, 2021).
I foresee that my Finance for Managers course will persist as a helpful resource in the future. The platform will function as a comprehensive storehouse of knowledge and a reliable source for informing prudent financial choices. The acquisition of theoretical frameworks and practical insights from this course will play a crucial role in effectively addressing comparable financial challenges with assurance and proficiency. The notions and theories offered in this discourse are substantiated by a multitude of financial theories and concepts. The prioritization of comprehensive study and analysis is by the tenets of rational choice theory, which asserts that individuals make decisions based on the goal of maximizing their utility (Accaglobal.com, 2021). The concept of diversification, as previously said, is based on the fundamental premise of risk management and aligns with the principles of modern portfolio theory.
Moreover, the significance of ongoing surveillance and adjustment aligns with the efficient market hypothesis, a theory positing that financial markets are dynamic and necessitate proactive management. The concept of the risk-return tradeoff is a fundamental principle that emphasizes the necessity of achieving a harmonious equilibrium between the potential for returns and the level of risk involved.
Conclusion
In conclusion, this reflective investigation examines the influence of financial principles, specifically diversification and the risk-return tradeoff, on a substantial investment choice. This statement underscores the significance of possessing financial knowledge in transforming situations of ambiguity into informed decision-making. The significance of comprehensive research, risk management, and ongoing learning in financial decision-making is emphasized in the analysis, drawing upon insights gained from the Finance for Managers course. Ultimately, this highlights the significant impact of financial literacy on shaping our financial paths.
References
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Anarkulova, A. (2022). The Risk-Return Tradeoff: Evidence from a Broad Sample of Developed Markets. SSRN Electronic Journal. doi:https://doi.org/10.2139/ssrn.4189684.
Consumer Financial Protection Bureau (2019). Financial knowledge and decision-making skills. [online] Consumer Financial Protection Bureau. Available at: https://www.consumerfinance.gov/consumer-tools/educator-tools/youth-financial-education/learn/financial-knowledge-decision-making-skills/.
Econlib (2019). Risk and Return - Econlib. [online] Econlib. Available at: https://www.econlib.org/library/Topics/College/riskandreturn.html [Accessed 1 Oct. 2023].
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Lusardi, A. (2019). Financial literacy and the need for financial education: evidence and implications. Swiss Journal of Economics and Statistics, [online] 155(1). doi:https://doi.org/10.1186/s41937-019-0027-5.
Moonfare.com (2023). What is risk diversification and how does it reduce risks? [online] www.moonfare.com. Available at: https://www.moonfare.com/glossary/risk-diversification.
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