Stock Trading Blog

Why Target-Date Funds Are the Worst Thing You Could Invest In for Retirement

retirement financial planning

Investors are always looking for the next great product that can help them gain an edge on the market. From the dissatisfaction of the performance and fees of mutual funds, came the advent of ETFs. But investors still wanted a total investment vehicle that could be used in retirement accounts that didn’t need yearly adjustments or modifications. They wanted something that could be invested in and never touched again.

In response, the investment industry came up with the target-date retirement fund. A fund that automatically sets up an allocation between stocks and bonds and slowly changes that allocation over time to become more conservative. To some investors, it’s a one-stop-shopping option for retirement, making it easier to participate in programs like a 401k or IRA, but the drawbacks of such a plan might not be worth the ease of investing.

Automation in your investments may not be all it’s cracked up to be.

It’s seems like a good idea to create an all-in-one retirement fund that any investor can participate in and not have to think about until they actually retire. But unfortunately, there’s a number of incorrect assumptions that target-date-retirement funds hold.

The first problem is the lack of allocation options. Unless you’re an investor whose risk profile perfectly matches a target-date-retirement fund, you’ll either be over exposed to risk, or more commonly, under-exposed.

What’s the issue?

The way these funds allocate depends on the target date of the fund. If you have 20 years until retirement, you would choose a fund with a target date of around 2035. As you get closer to that date, the fund automatically adjusts your stock and bond allocation to be more conservative without you having to do anything on your part. The problem is that these funds are really just broad attempts at filling the needs of multiple investors without considering individual specific needs or goals. One fund cannot possible fit the needs of every investor who intends to retire within that time-frame.

The other issue with target date retirement funds is the same issue that’s plaguing the mutual fund industry – fees. The average fee for a target date fund is around 0.45 percent. That doesn’t sound like much, but compounded over several decades, it becomes a more significant loss. An 8 percent gain over thirty years at $1,200 a year comes out to be around $136,000. Taking away 0.45 percent changes that final amount to $125,000 – a loss of $11,000.

For the conservative investor who may not have the time or ability to manage their retirement portfolio, a target date fund could work. The biggest mistake investors tend to make is assuming that a target date fund means that no other investments are needed. Diversification is still an essential part of any retirement plan. If a target date fund is chosen, that doesn’t mean other types of investments aren’t needed.

 

 

Don’t Be Fooled By Deceptive Figures: What to Know about Lying Ratios

penny stocks

Investors are divided by how they analyze stocks. On one side, chartists use technical data, like chart patterns, momentum, volume and other data points in order to make predictions about future price movements. On the other side are fundamentalists, who disregard charts and graphs and focus more on financial and economic data along with things like management and growth prospects.

To the fundamentalist, trying to predict price based on past patterns and charts is akin to fortune tellers who base their analysis on the position of the stars. Instead, they look to more solid evidence that can be found in financial statements and economic reports. But trusting the numbers can also be misleading – numbers don’t always the tell the whole story.

Deceptive figures in stock analysis

One would be forgiven if they thought numbers were infallible. After all, no one would argue that one plus one doesn’t equal two. But in financial statement analysis, investors often find that numbers don’t always always reveal the whole story.

Accounting rules make for interesting analytical pieces when items like rent are considered. For some debt obligations, being listed in totality on the balance sheet isn’t required. Instead, only the monthly portion of rent or loan is required. That could tell investors that there’s less debt than really exists for a company.

The interpretation of those numbers brings up another challenge for investors. Globalization means that economies are interconnected in a way that can’t be easily separated. Something that happens in China could impact a major American company, which in turn could affect an entire industry, which causes the U.S. dollar to fall and so on.

Even the experts disagree on what numbers can really mean. One might see a poor earnings report as a sign that the company is mismanaged and doing poorly, while another could argue that the company also missed because it needs to grow bigger and take advantage of economies of scale.

Finally, growth estimates are treated far more like a certainty than they really are by many investors. A company that issues guidance of 10 percent EPS growth affects P/E and stock price, but without context, an EPS growth estimate is only an educated guess. Anything unexpected, like an acquisition, can temporarily decrease earnings with the expectation of boosting them later on.

Fundamental data is often used to determine if a stock should be bought or sold, while technical analysis tells investors when it should be bought or sold. Used together, certain gaps or contradictions can be made clearer. By utilizing all the data available, investors can get a much better estimate of what a stock’s true value really is.

 

 

Why Earnings are the Biggest Risk to Markets Right Now

US dollar

The markets are at record high values right now, while volatility has seemingly disappeared. All the good news has been priced into stocks, while bad news doesn’t appear to be reflected in most industries. While the third quarter of earnings statements is well under way, all eyes are already focused on what year-end results will be.

Earnings is the primary driver of stock prices. Earnings are then combined with a multiple placed on stocks relative to risk, helping create a stock price. This relationship creates one of the most common ratios investors use to value stocks – the price-to-earnings ratio, or P/E. But with investors seemingly oblivious to risk, earnings results are more critical than ever to keep the bull market alive.

Illusory gains or real growth?

If investors ignore the risks facing the market, earnings become the only real foundation to support higher stock prices. As long as earnings come in as expected, or better yet, higher than expected, then the price of the stock will stay the same, or go down relative to its intrinsic value as determined by the multiple investors are willing to pay.

Assume a stock is trading at $20 per share and has earnings of $1 per share. This gives the stock a P/E ratio of 20. If earnings go up to $1.50, the P/E either drops to 13.33 and the price stays the same, or the P/E stays the same and the price climbs to $30 per share. However, the reverse is true if earnings fall.

If earnings do start to pull back, investors will need to either let stock prices fall to accommodate the suddenly higher P/E ratios, or take on more risk in order to keep prices moving higher. If the latter happens and risk increases in the markets, the danger of a sudden and decisive correction downward becomes more likely.

One of the most concerning issues acing markets going into 2018 is the state of the energy industry. Oil prices have largely been driven by OPEC’s production cut deal in order to reduce inventories and reduce supply. But demand for energy going forward is a telling statistic. Oil prices are expected to hold flat for the foreseeable future and demand for energy isn’t growing significantly stronger. That could be an expected slowdown in global economic growth – something that would translate to lower earnings in 2018.

The stock market can still post gains, even if earnings fall. Historically, the market can sustain higher than average P/E ratios and march forward for years before correcting downward. Year-end results and U.S. GDP will help investors take stock of where the economy is really at in terms of strength and momentum. Other than earnings, other risks, like geopolitical tensions with North Korea, could become more prominent in the short term, as well. Moving forward, investors should use caution when estimating future earnings growth and stock values.

 

 

3 Trading Strategies to Maximize Profits and Minimize Losses

mobile stock trading

The perfect investment pays off far more than you expect with no chance of turning negative. If such an opportunity existed, investors would create such a high demand with an equally high multiple, that it would eventually become just another trade.

The quest to maximize potential gains, while risking the least amount possible is what drives equity markets across the globe. Complicated strategies used by institutional firms utilizing interest rate swaps and currency carry trades may be a bit too much for the everyday investor, but that doesn’t mean there aren’t strategies you can use to make your portfolio risk-resistant.

Combat risk with these simple strategies

One of the easiest ways to measure risk quickly in a stock is to take a look at its beta. This is a measurement for how much the stock moves relative to an index like the S&P 500 with 1 being virtually equivalent. If the market goes up 1 percent, you can expect the stock to go up 1 percent, as well.

A beta of more than 1 indicates that the stock will move in a greater range than the market average. So a beta of 1.5 means the stock will go up 1.5 percent for every 1 percent gain in the market. But it also means the stock would move down 1.5 percent for every 1 percent drop in the market. A beta of 0 means there’s no correlation between the stock and the market while a negative beta indicates an inverse relationship.

Another way to minimize risk in your investments is to include simple option strategies. If you own the stock already, you can use covered calls to lower your overall cost basis at the risk of having to sell (at a profit) if the stock climbs higher, faster than expected. Selling puts on a stock you’re not quite ready to purchase in another great way to minimize risk. If the stock fails to drop to price you want, you still get to keep the profits from the sold put. And if the stock does drop, then you get the stock at the price you wanted while also keeping the profits from the sold put, which lowers your cost basis.

Finally, buying in stages is a sure-fire way to keep risk at a minimum. By buying a position in a desired stock slowly over time, you can get a better feel for its performance and have more time to make a different decision if you need to. Alternatively, if you buy in all at once and discover next week that the stock is expected to miss earnings and could be headed lower, you’ve already committed the full amount. Instead of selling a partial amount for a loss, you may be forced to sell much more for the same loss percentage, resulting in worse performance overall.

Despite numerous methods for reducing risk, nothing does a better job than a properly diversified portfolio. Spreading your holdings out to include multiple sectors, market cap sizes and regions makes your portfolio resistant against large swings due to unfavorable market conditions. Stay diversified and include a few more risk mitigation techniques, and you’ll have a defensive portfolio that’s able to handle almost anything the market can throw at it.

 

 

How to Measure Risk and Reward in the Market

penny stocks

It might be an obvious statement to say that the goal of investing is to generate profit, but that’s not to say that all profits are created equal. Basing a successful strategy off the basis of total returns alone isn’t a valid methodology. There needs to be an accountability of risks taken to achieve the results in order to determine if the strategy is good for long term success or simply a one-off fluke.

A portfolio invested solely in commodity futures could achieve staggering gains compared to a diverse stock portfolio, but it also takes on far more risk. The former commodity futures portfolio could just as easily experience extremely high losses, whereas a more diversified stock portfolio wouldn’t have those kinds of large swings. In the end, there needs to be a balance between the amount of risk taken on and the estimated returns your portfolio should achieve.

The balancing act

Let’s say we’re comparing two portfolios in order to see which one is better. Portfolio A posted a return of 20 percent, while portfolio B only posted a 10 percent gain. At first glance, it seems easy to say that portfolio A is the better choice, but there’s not enough information available to be certain just yet.

Going a little deeper, we see that portfolio A was invested in speculative small cap stocks, while portfolio B was invested in large cap value stocks. Furthermore, we discover that both portfolios could have lost just as much as they gained, meaning that portfolio A could have had a 20 percent loss instead of a 20 percent gain.

In order to truly measure a portfolio’s total performance, we need a way to include assumed risk. Ratio’s like the Sharpe ratio, M squared, and the Treynor ratio can help break down a portfolio to more easily judge which is a better fit.

The Sharpe Ratio, or reward-to-variability ratio

Sharpe ratio = (Rp-Rf)/Std

Rp = Mean return of portfolio being evaluated

Rf = Risk-free rate

Std = Standard deviation of portfolio being evaluated.

This ratio can be used to determine if a selected portfolio has beaten the market or underperformed relative to risk. Assuming risks are equal, the higher ratio indicated the better portfolio.

M Squared Ratio

M squared = Rp – Rm

Rp = Risk-adjusted rate of return created through a combination of a portfolio and a risk free asset

Rm = Return of the market portfolio

M squared is used similarly to the Sharpe ratio to compare risk-adjusted returns between two portfolios. A positive M squared means the portfolio outperformed the market, while a negative one means the market was the better portfolio.

Treynor Ratio, or reward-to-volatility ratio

Treynor ratio = (Rp – Rf)/B

Rp = Mean return of portfolio being evaluated

Rf = Risk-free rate

B = Beta of portfolio being evaluated

The Treynor ratio helps investors determine which portfolio is taking on more risk. Figures greater than one mean more risk in being taken than the market portfolio. While that might seem like a bad thing, if expected returns are equally higher, it would be equal to the market.

Investors should take into account the type of assets involved and risk being taken before committing to a portfolio. High risk generally means higher reward, but it might not be equal. Ten percent more risk might only translate to a 1 percent higher gain, making it less desirable than the market average. Using risk ratios, investors can analyze different possibilities effectively before investing.

 

 

Safe Haven Assets: Does Gold Really Hold Up?

gold stock mining

When economic times get tough, there’s one asset investors run to more than any other – gold. The glittery metal is viewed as highly defensive, since it tends to hold its value and preserve wealth, while stocks and fiat currencies like the dollar can fluctuate.

Investors think that gold has an inverse relationship with stocks and the U.S. dollar and act accordingly. But gold’s real value actually stems from inflation, a fact that tends to get lost in the background against the cacophony of Wall Street. When it comes to gold as a safe haven asset, there are a number of things to consider before judging its performance.

What gold does for investors

It happens all the time – the markets start to fall, economic data comes in weaker than expected, or geopolitical tensions rise. The first thing investors look to during these times is gold. The precious metal isn’t incorruptible, but as a physical commodity, its value holds strong relative to other assets.

But gold isn’t an asset that really appreciates over time, unlike stocks. Gold acts as a wealth preserver, holding value steady when all other assets move up or down as the economy performs. Gold doesn’t produce anything or pay interest, it only holds the value of the investment relative to inflation.

But a down market isn’t enough to make gold valuable. It’s real worth needs to assessed relative to inflation and interest rates. Inflation eats away at the power of currencies like the U.S. dollar. In order to compensate for that loss, investments or interest rates must outperform that rate or investors will experience a real net loss.

If interest rates are higher than inflation, there’s no danger to losing purchasing power and gold won’t help any more than conservative investments, like bonds and U.S. treasuries. But if inflation is higher than interest rates, then investors will experience a loss, even when invested in safe assets. This negative environment is where gold’s true worth really shines through. Because gold is tied to inflation, even if interest rates get swallowed up by inflation, money held in gold will stay the same relative to inflation. Gold will be the outperforming asset in this situation.

 

Keeping a small percentage of a portfolio in gold at all times can be a good defensive strategy. Sudden economic downturns, especially black swan events, can erase gains in a portfolio very quickly. Having a small amount invested in gold means stability for at least a small portion of one’s holdings. When inflation comes on suddenly, markets often experience a sharp downturn with bonds and treasuries lagging behind in both face value and yields. Investors who need a conservative approach who may be approaching retirement will be able to make withdraws from gold holdings, which haven’t lost value due to inflation.

 

 

Can This Bull Market Keep Heading Higher?

bull and bear market

The stock market has continued its long bull run, up nearly 14 percent year-to-date. It’s the second longest bull market in history, which was born in March 2009 following the Great Recession. And it’s that longevity that has investors wondering – when will it end?

Despite setbacks, like the oil crash prompted by OPEC’s war on U.S. shale and the subsequent deal to cut production in order to lift prices again, the current bull market has continued on unfettered. But there are cracks showing that could bring about the start of a new bear market. Whether those cracks will widen this year or next is still debatable.

Obstacles in the Markets

Stocks have climbed without stumbling much so far this year. There hasn’t been any sign of a correction and any negative news seems to get absorbed by investors without blinking. But investor confidence may be misplaced.

One of the most often quoted indexes on Wall Street is the VIX Volatility Index, commonly referred to as the “fear gauge.” Anything over 20 is considered volatile, while anything under 15 is considered calm. Contrarian and value investors like to sell during calm markets and buy when volatility is high and other investors are panicking.

Right now, the VIX reads at around 10, with less than a handful of minor spikes above 15 earlier in the year. At first glance it might seem like this means everything is steady and calm in the markets. But really, all it says is that investors believe risks are low. Long-term low volatility can indicate a level of apathy in investors minds who aren’t correctly anticipating or pricing in real market risks. It’s a prelude to a possible correction.

One of the best indicators of an issue is the average multiple relative to earnings investors are paying for stocks. Right now, the average P/E of the S&P 500 is at 25.43. Considering the historical median is 14.67, it seems safe to say that stocks are currently overpriced. However, this statistic alone isn’t enough to condemn the market. From the late 90’s to the early 2000’s, the average P/E stayed above this level and, in 2008, multiples soared above 65 times earnings.

Finally, earnings are what drive stock prices. A recent report revealed that energy prices are expected to fall next year as demand drops – low demand equals lower growth expectations. And if earnings drop, stock values should fall as well. Keep an eye on whether stock values fall with lower earnings. That would make multiples even higher and stocks far more expensive relative to risk.

Despite evidence of an emerging bear market, investors don’t need to press the panic button just yet. History shows that stocks can continue going higher for years even with elevated multiples. While a correction is arguably overdue, it won’t necessarily mean that a long term bear market will take over. It could take several corrections before earnings become too low and multiples too high to support stock values.

 

 

Dividend Payers and Other Hedging Strategies

US dollar

Dividend paying stocks are usually popular choices for risk-tolerant and risk-adverse investors alike. For the risk-tolerant, dividend yielding stocks can help diversify against loss while providing extra income to boost returns. For the risk-adverse, the same stocks lower overall risk in the portfolio and provide a steady stream of income and returns, instead of chasing big gains and risking equally large losses.

Usually investors think of bonds and treasuries when a conservative portfolio is discussed instead of stocks. And when stocks are included, only dividend yielding ones are screened for. But dividends aren’t the only path conservative investors have when it comes to equities. There are plenty of other stock types to consider when building a defensive or conservative portfolio without having to turn to other assets, like bonds and treasuries.

Don’t count out stocks when it comes to building a defensive portfolio

While dividend payers are a no-brainer for investors that seek hedging strategies or defensive stocks, there are several other things to consider before making a decision. Things like having a large market capitalization, stock buyback programs and sector rotation planning should be included in any portfolio – defensive or not.

Having a large market cap is good for defensively-minded investors, because it usually means that the stock won’t react strongly to market movements. These types of companies tend to be global, making them diversified with their product or service, as well. Both conservative and risk-oriented investors use large cap stocks as portfolio anchors to build the rest of their stock picks around.

Stock buybacks are a great advantage for any investor because they mean the company is helping lift the stock price by generating positive buying activity in the stock. It also means management has shareholders’ best interests in mind and takes an active role in managing the stock price. When a stock starts to fall, having a stock repurchase program can often turn the tide and keep the stock from falling.

Finally, a strategy known as sector rotation can help hedge your portfolio by allowing the business cycle to guide your investments. This cycle is correlated with the economy with certain sectors under-performing or out-performing, depending on where the economy is in the cycle. By avoiding sectors that generally lag and investing in those that do well, you can effectively ride the economic wave and take out some of the guesswork.

Options are often considered separate from stocks in a portfolio, but many option strategies include holding equities as a part of the plan and can be very conservative. Covered calls for example can be a great way to hedge your portfolio if you already own the underlying equity. This allows you to profit upfront, thus lowering your investment base at the cost of selling at a higher price if the stock moves up that high before the expiration date.

 

 

 

3 Investment Rules to Live By

businessman

Successful investors know that due diligence and strategic planning are necessary to stay ahead of the curve. Over time, you may find that you’ve developed certain rules that help you invest better and make smarter decisions. If so, you might already know some or all of these three essential rules. If you don’t, you should consider adding them to your list.

Here are 3 simple rules that every successful investor swears by.

Brand Name Matters

The first rule is simple – brand name matters. The best-in-breed companies are best for a reason. There’s a similar saying in real estate, as well – don’t buy the best house if it’s in a bad neighborhood. Value investors are often guilty of ignoring this rule because they confuse undervalued companies with second-rate companies.

A strong brand name company or stock is a top pick for a number of reasons. They generally have a large market share, sell a product or service that is in demand and are owned by institutional investors. This makes them very competitive relative to their peers and will generally outperform them over time.

Don’t Be Afraid to Hold Cash

It’s a common misconception that holding a large amount of cash means you’re making a mistake and missing out on potential gains. While there might be a case to be made about opportunity cost, there’s also a case to be made for patience.

Consider a scenario in which an investor is 100 percent committed in the market with a portfolio of stocks and nothing in cash holdings. But then an opportunity arises in a stock that could result in big gains. The investor who has cash on stand-by can immediately jump in and purchase the stock, while the one who doesn’t have cash on hand will have to make a choice about what stock to sell, if any, and wait for the sale to go through before making a purchase.

Invest Like It’s For Someone Else

Investing is often a solitary activity. While that’s not a bad thing, it can lead to a certain kind of laziness that could spell big trouble for the undisciplined investor. That brings us to rule number three – invest like it’s for someone else.

You might buy a stock simply because it looks cheap and you like the company, but if you tried explaining to someone else that you bought a stock for them with that explanation, you’d be fired pretty quickly. If you can’t explain your reasoning for holding a stock and why it will go higher, then you shouldn’t own it.

Obeying the above three rules will almost certainly improve your investment performance, but it doesn’t stop there. Incorporating these into other lessons you’ve learned will help you make smarter investment decisions and increase your returns.

 

 

3 Industries that Might Not Be Around in a Decade

typewriter

Economic sectors might be one of the cornerstones of diversity, but they aren’t timeless. In fact, sectors are born and die over time as technology and consumer habits change. Investors need to be aware of industries and emerging trends that could mean the beginning or end of an industry, or else find themselves lagging behind in a dying business.

Long gone are the days of the seeing the milkman in your neighborhood making deliveries or talking to the switchboard operator when making a call. Those jobs were replaced by automation and other business innovations decades ago.

As an investor, having a long term investment horizon is usually the best advice, but it also means you need to be extra diligent when making your portfolio selections. Unlike stocks that dip down temporarily and eventually go higher, industries that face extinction don’t usually recover. You need to be careful and avoid investing in an industry that could be on its way out.

Endangered Industries

1. Transportation

IoT (Internet of Things) is a game-changing new technology that allows machines and programs to communicate and operate without the need for human interaction. That means energy grids that can order their own repairs, refrigerators that order food to be delivered when they start to run out and, yes, cars that drive themselves.

Automated vehicles won’t just improve safety and make your daily commute easier and more efficient, they also mean professional drivers may soon be out of work. Train engineers and even commercial pilots could be replaced by artificial intelligence within the next 10 years.

2. Coal

Most people think the political climate is responsible for the downfall of coal, but, once again, technology is the real culprit. Coal has been the power source of choice for more than a century because it was cheap, but recent innovations in photovoltiacs means that solar power is now on par with coal for price. With so many people looking at alternative energy and green business policies, an industry as polluting as coal won’t be able to stay competitive.

3. Cable

The cable industry has enjoyed many years of control, dictating what type of programs get made, while consumers were left with whatever was on TV at the right time. But the advent of companies like Netflix, Hulu and Amazon Prime means that cable won’t be able to compete with on-demand programming. While most packages now include some type of on-demand service or recording ability, cable’s popularity continues falling with more and more people switching to cheaper alternative entertainment packages instead.

Industries don’t just die out and leave nothing behind. When business models go bankrupt, other industries take notice of what worked and what didn’t.

Take the publishing industry for example. Printing books and magazines, and selling goods in a brick and mortar store is now a model for quick losses thanks to competitors like Amazon. But the business of the written word won’t just go away. Instead it’s being reinvented with online distribution channels and technology like the Nook that allows users to download hundreds of books onto one device.

Old business models and industries fade away and other more efficient ones rise up and take their place. Technology as an industry hasn’t been around more than a few decades, but is one of the fastest-growing sectors in the economy. There will likely be many more industries in danger of becoming extinct as technology advances through the 21st century.

 

 

How Interest Rates Affect the Market

stock market interest

The financial markets are fickle things that overreact to virtually any new information. Some movements are relatively easy to predict, such as when GDP data comes in higher or lower than expected. Others are more tricky.

The Federal Reserve, an institution designed to maximize employment and control inflation, has become more influential in the markets over the past decade or so, following its quantitative easing program. Investors keep careful watch on what the Fed does and says because it impacts interest rates. And those, in turn, affect almost every corner of the markets, from the value of the United States dollar to stock valuations to bond prices. But it’s not as intuitive as one might think.

The interest rate effect

Interest rates essentially exist for two reasons: the time value of money and inflation. The time value of money says that money now is worth more than money later. If someone loaned out $10,000, they would charge some type of interest rate for it. This makes sense because of the opportunity cost of not applying that money to something that could net a larger return.

Inflation is the bigger threat, though. When inflation is low, interest rates should also be low to encourage growth. Conversely when inflation is high, interest rates should be high in order to curb growth and bring down inflation. Because companies need loans to finance growth and investments, a lower interest rate means higher earnings and less costs due to interest expenses while high interest rates have the opposite effect.

You might think that when the Fed announces an interest rate hike, that it would have a deleterious effect on stocks. After all, higher rates mean more spent on interest and less money for profit and earnings. But in recent years, that hasn’t been the case. In fact, stocks rose in response to the Fed raising interest rates. The reason being that, after years of interest rates near zero, the Fed hiking rates meant a renewed sense of confidence in the economy – something investors felt was more positive than the slight negative of higher rates.

Interest rates always need to be looked at in context. When Herbert Hoover raised rates after the stock market crashed in the late 1920’s/ early 1930’s, he exacerbated the Great Depression. The lesson learned is that rates need to be adjusted only when it makes economic sense. Interestingly, the stock market seems to be able to absorb the impact of higher interest rates over time. At first there might be a drop in values as businesses and investors get used to the higher expense, but eventually the market balances out making overall interest rates irrelevant.

 

 

Strategies for Mitigating Geopolitical Risk

investing

Risk is a necessary evil in every portfolio – but that’s not necessarily a bad thing. Risk is why stocks can outperform safer, conservative investments like bonds and treasuries. The key is to diversify your holdings so that one single risk doesn’t pose too much of a threat to your overall portfolio.

Many investors believe that diversification begins and ends with simply buying a number of stocks in a different industry. While that might help protect against several forms of economic and industry risk, it doesn’t do much for macroeconomic concerns like geopolitical risk. To defend against this kind of threat, investors will need to have a thorough understanding of what geopolitical risk is and how they can prepare for it.

Welcome to the geopolitical arena

Globalization is when businesses operate on a global scale and not just within a specific region or country. You might think that the term only applies to large multinational corporations, like Apple or Exxon Mobil, but it affects every business in every industry around the world.

For example, imagine a small regional hardware goods retailer that doesn’t do business outside of the state. You might think it’s immune to geopolitical risk, but then a group of protesters overthrows the government in Bangladesh. Suddenly there’s a supply chain disruption problem where the company that manufactures the hardware goods makes exporting them difficult. Now the small regional store has no choice but to buy from an alternative, more expensive supplier and is forced to increase the price, lowering their returns.

While the above scenario might be somewhat far-fetched, geopolitical risk can affect almost anything, making it hard to plan for or predict. The best way to handle it is to keep abreast of what the political risks are. If there are tensions in the middle east, oil prices are likely vulnerable. European debt crises could mean a spike in United States treasury yields and falling bond prices.

Increased volatility from geopolitical risk can be a good thing for investors. Investors that sell out of the markets, especially in a sector that isn’t affected by the event, leave the door open to value seekers who can swoop in to buy at a discount. Interestingly, history has shown that geopolitical risks don’t have a long term impact on the markets.

The best strategy for a drop in stock values due to geopolitical risk is to buy into the dip. Even sectors that are directly impacted by the event don’t stay down once the event has ran its course. Investors generally over-react to the risks, causing a larger movement in prices than is warranted. In this case, contrarian investors may be the correct ones.

 

 

Getting Started in the Mining Industry

gold stock mining

While some investors love chasing the latest technological trend or favorite consumer product or service, others prefer investing in something more primal. These investors like companies whose business is easily understood – something solid. They want a product that has real value, no matter what.

Mining companies harvest metals and minerals essential for every industry, from manufacturing and construction to technology and transportation. They deal with commodities like gold, silver, copper, iron, molybdenum, uranium and more, elements that are largely responsible for our modern world.

Mining Stocks 101

The mining industry is somewhat unique in the world of business. Standard ratios like price-to-earnings don’t have as much relevancy, meaning that investors need to analyze mining stocks with other forms of data. That’s because mining companies carry large amounts of metals on their balance sheets, making assets far more important than earnings.

The cost of production is arguably a mining stock’s most important statistic. The lower the all-in sustaining cost of production, the lower prices for the mined metal can drop before the company becomes adversely affected. It also means margins are higher. For example, a gold miner with all-in costs of $500 is in a better financial position than a miner that has costs of $750. It also means the former company has more room for error if the price of gold drops. If gold dropped to $700 per ounce, the first company would still be profitable while the second would need to stop production until the price crossed over the break-even point.

Investors should also note the differences between a junior miner and a senior mining company. Junior miners are focused on exploration rather than production. That makes them far more volatile, since locating metals and minerals is a risky endeavor that doesn’t have any guarantees of success. Senior mining companies, however, operate mines and focus on production. That makes them more stable than junior miners.

There’s one last type of mining company – streaming. These types of mining companies have purchase agreements with other mining companies to buy some or all of the metals mined at a predetermined cost. That makes it more resistant to changes in commodity values and even more stable than traditional mining companies.

There’s a risk in the mining industry that doesn’t exist in most other industries – commodity risk. Because these companies deal with metals that are traded as commodities, price fluctuations can change the overall value of a mining stock. A drop in the value of gold means that margins for a gold miner are reduced. If it drops below the company’s cost to extract the metal, then it starts hemorrhaging money. Investors should keep a watchful eye on commodity values when owning a mining stock.

 

 

What A.I. Automation Means for Employment and Your Portfolio

self-driving car

There’s a lot of talk on Wall Street about the future of artificial intelligence and what it means for the economy. Predictions of robots taking jobs away and mass unemployment are contrasted with ideas of a paradise-like society where no one is left wanting for anything. Reality though, likely lies somewhere in between.

There are two sides to this story: investment opportunities and the impact on the workforce. Any new technology means there are investors clamoring for investment opportunities, looking for ways to play the trend early and trying to find where the best A.I. stocks are. On the other hand, widespread automation will certainly impact the workforce, the true extent of which no one really knows.

Investing in A.I.

Experts estimate that the artificial intelligence market will be worth more than $46 billion by 2020 – just three short years away. But the market is still in development with different companies tackling different aspects of the technology. If you want to get in on the ground floor, you need to know where to look.

The first group of companies, Facebook, Apple and Amazon, are all involved with a type of artificial intelligence. This is the technology that learns a users individual tastes and preferences and bases ads and recommendations accordingly. Also, interactive software like Alexa and Siri all part of the emerging field.

Driver-less cars seem to be the next trend in A.I. development, making Alphabet, Tesla, and most automakers a part of it. This type of intelligence is able to map out its surroundings and react to them in real time – a technology with applications in a number of various industries.

The best pure play on artificial intelligence is probably NVIDIA Corporation right now, though. The company designs the Drive PX 2 supercomputer used in driver-less cars and its powerful graphics processors are behind many of the latest A.I. projects in other companies.

The Automated Workforce

What artificial intelligence and automation will bring to the workforce is largely hypothetical at this point, but there are some serious concerns already. The advent of the driver-less car alone could have huge ramifications for a number of industries – most felt by truckers and the transportation industry. Commercial driving may no longer be done by humans in the next 20 or 30 years which means around 9 million people could be out of work within the next few decades. Ideas like the Universal Basic Income plan are already being brandied about by politicians and business leaders who see the difficulties that lie ahead.

The A.I. revolution is still very young, making it difficult to predict what the impact will be over the long term. There needs to be an existing infrastructure before A.I. can truly start being implemented on a widespread basis, meaning that investors can also look at stocks that specialize in this type of industry. Investors who want to get an edge on artificial intelligence should start small and bear in mind that the industry is likely to go through a number of large highs and lows before becoming established as a solid part of the economy.

 

 

 

Learning to Spot (and Avoid) Value Traps

financial stock numbers

Value investors pride themselves on their ability to locate undervalued, under-appreciated stocks with a lot of untapped upside potential. It takes due diligence to be able to identify the key characteristics of a value stock – low P/E, low PEG and minimal debt. Many also have little to no analyst coverage, a dividend payment and a market cap of less than $2 billion. These stocks usually have one other defining characteristic – they usually haven’t been outperforming the broader indexes.

Unlike growth investors who focus on fast-growing companies with a high P/E and a chart that looks like a 45 degree upward climb, value investors prefer patience. By knowing a stocks true intrinsic value, they can wait out impatient investors, temporary trends and anything else that doesn’t interfere with the stocks future potential. But it’s not as easy as screening for just a few key ratios. Many would-be value stocks are actually traps that can quickly sink any portfolio.

Triggering the Trap

A real value stock has the potential for outsized gains. What separates a successful value investor from a poor one is knowing why the stock hasn’t yet reached its potential. After all, if an investor looks at a stock and comes to the conclusion it’s actually worth 15 percent more than its currently trading for, there has to be a reason.

There needs to be a catalyst for a value stock to go higher. Maybe its a cyclical stock that’s simply out of favor at the moment, or it has a promising new product that hasn’t been released yet. Whatever the reason, investors should be able to explain exactly what it is that will push the value stock up to its intrinsic value. If the only reason to buy a stock is because it’s priced cheaply, you could be looking at a value trap.

Some stocks that have a low P/E ratio might not be undervalued – there could be a perfectly good reason why it trades at such a low multiple. It could be that there isn’t much room for growth, or it might be in a dying industry. Investors need to be careful not to associate “low P/E” with “value.”

Another big trap happens with the dividend payment. A high dividend yield might be attractive for investors, but the payout ratio is what will reveal the companies ability to continue paying it. A payout ratio of more than 100 percent means that the company is paying out more in dividends than it earns in income – an unsustainable operation.

One of the hardest things for value investors to learn is patience. Sometimes a stocks intrinsic value isn’t realized for more than a year, making it a strategy for those who have a long term investment horizon. Warren Buffett says that if you aren’t willing to hold a stock for at least 10 years, then it’s not worth owning. True value plays happen over time, not in the course of just a few weeks.