2. Evaluating Risk
Risk is the probability of losing money. All stocks are risky compared to government-insured savings accounts, but some stocks are much riskier than others. Yet investors rarely evaluate the inherent risks when contemplating buying a stock. But it makes sense to do so. Here’s why.
Suppose that you are considering two stocks, and your analysis shows that both could double in price over the next two years. But Company A’s stock is twice as risky as Company B’s. Knowing that, the choice between Company A and Company B becomes obvious.
You can reduce your overall risk by diversifying your investments over a variety of stocks in diverse industries.
The airline and oil industries provide a classic example. Increasing ...