After showing very little volatility during the last six months, the markets have been moving upwards and downwards some violently lately.
Making money in the long term has to do with patience, but it has also to do with having cash on hand to buy more of your favorite companies when they lower their prices. Regularly the addition of funds to your brokerage account is a great way to do this, but sometimes things get a little tight at home and that is not possible. Fortunately, the stocks in your portfolio maintain the cash flowing in your account with their respective dividend yields and their quarterly dividend payments.
"The amount of funding that there is out there allows to make negotiations and to do them quickly," has said an investment banker. "There is so much cash and so many potential buyers that prices can be high. There is no cooling (of the market) yet."
Energy and natural resources, as well as financial services and telecommunications, were among the sectors that participated more actively in mergers and acquisitions in the United States during the first half of the year.
Investment bankers have said they expect that energy, raw materials, healthcare, financial services and basic industrials to see the heaviest flow of negotiations during the rest of this year. Technology, media and telecommunications should cool off after an agitated rhythm of transactions in the last two years.
The stock-market fluctuations of this year have done little to calm the merger volume, and the spurt of deals continues being strong, investment bankers have said. The Standard & Poor's 500 Index and Dow Jones industrial average are approximately without much change for the year after several weeks of volatility due to worries about interest rates and fuel prices.
However, Americans should consider having 15-30% of their portfolio in foreign investments. We suggest a 5% allocation to ascending economies like Brazil or India. The rest should go to more established, though of a slower growth, local stocks.
Know, nevertheless, that developed markets outside the United States also have volatility. Since the beginning of 2006, the Standard & Poor's 500 has closed with daily gains or losses of 1% or more 21 times, whereas the Morgan Stanley Capital International EAFE index, that follows the market progress of the richest European and Asian economies, has 32 times with the same kind of oscillations.
One way to obtain a measure of portfolio stability is to look for stocks with low beta coefficients. A beta of 1.0 indicates that the stock's price has moved historically in line with the market, whereas a beta of less than 1.0 means that the stock has been less volatile than the market.
Whereas selective sector allocation is a component of defensive strategy, you can move a step further in risk attenuation with the addition of a bear market fund. With this addition you are trying to neutralize some of the market risk inherent in long positions. When using bear market funds to neutralize market risk, an inverse index fund essentially guarantees this protection. With an actively managed fund, performance can vary depending on the manager's ability to choose the right stocks to short.
When you are building your portfolio, be sure to consider what happens when the economic atmosphere and market trends change. Taking a little time to find companies that have the balance sheets to last another day and can afford to pay out cash for reinvesting is an important step toward making volatility work in your favor.
Investing deals with making money, and at the most basic level, risk evaluation deals with determining the probability of losing money. For that reason it is that risk is more about valuation and a company's ability to generate economic returns on its invested capital, and less about the changes in its stock price swings in the past.
As a rule, when you are valuing a company and you see a high level of growth for a long period of time, that is risk. On the other hand, if a company only needs to grow at very low rates and earns returns on the inverted capital above its cost of capital, you are looking at a quite attractive investment, unconcerned of the share's previous volatility.