MoneyWatch

Athena financial & insurance services, inc.

Registered Investment Advisors
Text Box: Hardly a day goes by that a client doesn’t ask, “How’s the market doing?” My typical response is “About the same”. That answer isn’t nearly as flippant as it sounds because the truth is over the long haul the movement of the market is fairly predictable. Notice I said “the movement of the market” is predictable not the movement of individual stocks or mutual funds. To a varying degree, individual stocks and mutual funds tend to move with the ups and downs of the market. In fact, some studies suggest that 85% of the gain or loss in stocks and other equities can be explained by overall market action. Don’t misunderstand, this is not an argument for market timing—that’s has always been a fool’s game—but rather an argument for knowing which kinds of stocks do better under different conditions. Informed investors are better investors, they are more likely to stay the course while everyone around them is losing their head. It should come as no surprise that the market is thriving right now, the economy is strong, unemployment is low and interest rates have remained in check. But what type of companies are most vulnerable if the economy starts to slow? Big cyclical companies like automakers and steel producers usually get hit the hardest first because their huge investments in plant and equipment prevents them from cutting costs fast enough to make up for a declining market. We call this economic risk. Interest rate risk, more specifically rising interest rates, can effect both the stock and the bond markets although in different ways. Rising interest rates tends to attract money away from stocks and into bonds. Rising interest rates makes it more difficult for companies to raise capital and that in turn has an impact on profits. Another type of risk is market risk. This type of risk can best be explained by the somewhat crude expression “sh— happens.” Because a “herd mentality” dominates Wall Street sometimes the market can crash even when there seems to be no reasonable explanation for the decline. All it takes is for one key stock to take a dive and the route is on. Business risk is more ambiguous in nature and harder to quantify. It has to do with the nature of the company itself; is management competent? Is their technology up to date? Are they vulnerable to competition? How is their particular industry perceived by the investing public? This is just the tip of the iceberg when it comes to possible questions to ask, but you want to at least be able to answer enough of them so that you feel your decision to invest in a particular stock is based upon more than just a guess. The are other types of investment risk that bare keeping in mind, and their impact on a stock can be just as significant as those we’ve just discussed. Information risk is the chance that a piece of damaging information will come out which will cause the price of a stock to plunge. Fortunately, there are laws in place to make sure all investors have access to the information at the same time, but that tends to be of little consolation when the news in negative and the value of the stock tanks. Provided that a company is truthfully stating its numbers financial risk is probably the easiest of the various investment risks for the average investor to deal with. It is a fairly straightforward procedure to review a firm’s balance sheet and determine if the company is carrying a burdensome amount of debt or if the amount of that debt appears to be increasing. From the “it’s my newsletter so I can write about anything I like” proud Papa department: This week my youngest son “T.J.” takes part in the CIF Division IV finals in Belmont Shores. He’s seeded 8th in the 100 freestyle and 11th in the 50 freestyle; one of only two freshman in the region to qualify for both events. Way to go Taylor! ▲

Understanding investment risk...

Volume 17, Issue 9

May 8, 2006

Don’t Be Scared; Be Smart