Some thoughts about stock market risk…

by Crista Huff

The following is an excerpt from this week’s issue of Cabot Undervalued Stocks Advisor:

 

When I’m out and about in the world, talking to investors, I’ve noticed that when I mention my goal of minimizing the risk associated with stock investing, people’s eyes glaze over. I’ve come to realize that people generally believe eliminating risk actually means eliminating reward. Holy moly, NO!

Removing risk factors does not make a portfolio boring; it makes a portfolio successful!

Look, there’s risk and there’s reward; there’s lots of both in the investment world. If you remove some of the risk, then you have proportionately more of the reward.

Here’s an example: If you take every stock in the S&P 500, and eliminate the ones that have stagnant earnings, falling earnings or net losses, the remaining stocks have growing earnings. We eliminate the companies that are less likely to be growing and thriving, therefore eliminating the stocks that are less likely to be purchased by investors. We keep the stocks that are more likely to be purchased by investors. And what makes share prices rise? More buyers than sellers!

How about debt? Let’s remove the S&P 500 companies that are heavily debt-laden. What’s remaining? Companies with less debt. How does that help your share prices rise? When you own stock in a company with low debt obligations, that company theoretically has more cash available to make the company and stock attractive to investors. They can pay dividends and repurchase shares. They can hire employees, improve product lines, stay on top of technological innovations and build new manufacturing facilities. They can weather industry downturns without cutting dividends or going bankrupt. All of those activities attract investors, who in turn push share prices upward.

Repeat after me: minimizing risk is not boring, minimizing risk is not boring, minimizing risk is not boring. In fact, if you want to earn capital gains in the stock market, minimizing risk should be the goal.

 

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Crista Huff is Chief Analyst at Cabot Undervalued Stocks Advisor, a stock market newsletter. She also writes about stocks and politics on her website, Goodfellow LLC. You can reach her at research@goodfellowllc.com.