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Investing means giving away money in anticipation of some future benefit. In finance, the benefits from an investment is called return. Return can consist of gains (or losses) from the sale of real estate or investments, an increase in unrealized capital (or amortization) or investment income such as dividends, interest, rental income, etc., or a combination of capital gains and income. The return may also include foreign exchange gain or loss due to changes in exchange rates.

Investors generally expect higher returns on riskier investments. When low-risk investments are made, returns are usually low as well. Likewise, high risk comes with high rewards. Investors, especially novices, are often advised to adopt a specific investment strategy and diversify their portfolio. Diversification has a statistical effect on reducing overall risk. The investor may bear the risk of losing part or all of the invested capital. Investments differ from arbitrage, in which profits are generated without capital investment and bearing risk.

Savings carry the (usually negligible) risk that the financial service provider might pay off. Savings in foreign currencies also carry a currency risk: if the currency of the savings account differs from the national currency of the account holder, then there is a risk that the exchange rate between the two currencies will change unfavorably, so the value of the savings account will decrease in local currency of account owner. Unlike saving, investment tends to carry a greater risk in the form of a greater variety of risk factors and a greater degree of uncertainty.

An investor buys assets at cost that they believe are undervalued (and sells overvalued ones). To identify undervalued securities, a value investor uses an analysis of the issuer’s financial statements to assess security. Valuable investors use accounting ratios such as earnings per share and sales gains to identify securities that are trading below their value. Warren Buffett and Benjamin Graham are great examples of valuable investors. Graham and Dodd’s Security Analysis report was written in the wake of Wall Street crash in 1929.

The price / earnings (P / E) ratio or multiple earnings is a particularly important and recognized fundamental ratio with the function of dividing the share price of a stock by its earnings per share. This will give a value that represents the amount that investors are willing to spend on every dollar of the company’s earnings. This ratio is an important aspect because of its measuring ability to compare the ratings of different companies. A stock with a lower P / E ratio will be worth less than shares with a higher P / E ratio, given the same level of financial performance; hence, this essentially means that low P / E is the preferred option.

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