Systemic vs systematic risk: what’s the difference?

Answer:

Systemic risks usually used when showing an event that could cause a collapse in a certain industry or economy, and systematic risk refers to overall market risk.

What Is Systemic Risk?

While systemic risk has no exact definition, many have used systemic risk to describe narrow problems, such as problems in the payments system. Others have used it to describe an economic crisis that was triggered by failures in the financial system. Generally, systemic risk can be described as the risk caused by any event at the firm level that is severe enough to lead to instability in the financial system.

As an example of systemic risk the collapse of Lehman Brothers in 2008 caused serious consequences to the whole financial system and economy. The size of Lehman brothers and the deep integration in the economy caused its collapse will lead to a Domino effect, which caused a serious risk to the global financial system.

What Is Systematic Risk?

On the other hand, systematic risk is no more recognized and universal definition. Sometimes called market risk, systematic risk is the risk inherent in the aggregate market that cannot be solved by diversification. Some common sources of market risk are recessions, wars, interest rates and others that cannot be eliminated by portfolio diversification. Though systematic risk cannot be eliminated by diversification, it can be hedged. In addition, the risk for a particular firm or industry, and can be solved by diversification is called unsystematic or idiosyncratic risk.

“The great recession” at the end of 2000-ies is an example of systematic risk. Anyone who invested in the market in 2008, the value of their investment to change dramatically from this economic event. This decline in asset classes different, more risky securities were sold in large quantities, and is easier assets such as US Treasury bonds increased their value.

(See. our article offset risk with options, futures and hedge funds to learn ways to hedge systematic risk).

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