How to Determine Which Company Could Go Bankrupt
Credits to blog.leizerman.com
Credits to thienbao of Deviantart
So you want to be a smart investor. You spend wisely. You study investments thoroughly. You research and read a lot. Good but not enough.
There are pairs made in heaven.
There are also star-crossed lovers.
Love horoscopes always made it to be on the scene - to answer people’s compatibility issues and match making desires.
But when we define love, it’s not all about romantic love.
Don’t forget the love for money.
And the love for taking risks.
Second to business tycoons, traders have indeed a big heart for money and risks. They also believe in love match horoscopes but the kind that is guided by the stars in finance, like correlation analysis, which is a precise compatibility test - love match horoscope for securities and investments.
Correlation analysis seeks to determine the relationship between two investments - whether it is positive or negative, compatible or not, meant to be or not. A positive correlated investments, say two stocks, move in the same direction with each other. When Stock A is in the downtrend, then Stock B, which is a highly correlated stock to Stock A, is undeniably in a down trend too. Since they are expected to move with each other, then they will be still together during each other’s uptrend. On the other hand, the negative correlated investments are of course, the opposite. While Stock C is up, negatively correlated Stock D is down. Highly negatively correlated stocks most probably will not meet along the way, even half way. Of course, literally positive is good and negative is bad. It is easy to assume that Stocks A and B is a pair made in heaven while C and D is star-crossed.
Well, sometimes, in finance, you have to expect the unexpected. For traders and investors, C and D are the compatible “love match” for the sake of diversification of stocks in the portfolio. Possible losses in C will be possibly gains in D and vice versa. However, correlation analysis is not easy as looking in the crystal ball or connecting stars in the imagination. It takes statistics and finance technical bloody computations. But just by looking at THIS, knowing the stocks’ compatibility is now easy as abracadabra. Looking at the table shown in the link, you just have to plot desired pairs to see how match they are (positively or negatively correlated). E.g JPM and MSFT meet at green cell, which denotes that they are positively correlated.
If you know how to find product in a multiplication table, then, you just have to do the same thing in finding the compatibility.
Right now, we are experiencing fast-paced life brought to us by modernization. Tablets, hip cultures, Facebook, remote workers, tech startups, selfies, hashtags and the rise of the millennials are the existing proofs of it. More accessible, more comfortable, more convenient, more hi tech and less hassle are Miss Modern’s life gifts for us. If you feel thankful that you are living in this generation because of that, baby boomers, too, are. It’s because when they were still an infant, or still a fetus, finance people and investment enthusiasts have identified some problems associated with investing. And this has given way to the birth of MPT.
Picture 1: Harry Markowitz
Modern Portfolio theory, also called Portfolio Theory, Portfolio Management Theory or Markowitz Portfolio theory, is an ideal portfolio model developed by Harry Markowitz. This aims to answer the biggest setback that holds down every individual to the point that it hinders financial freedom and success: being naturally risk averse or the fear taking risk. One common advice in living the life to the fullest is to get out of the comfort zone. In investing, its risk return trade off. The more risk associated with it, the higher possible returns you will win. Markowitz used his wits to get out in the comfort zone of investing, with style. He provided ways on how to achieve the greatest possible return associated with a given amount of risk. The simplest way is Diversification - to spread the investments in different categories so that only a part will be affected in case of default. Another is by knowing the Correlation Coefficient. CC is like horoscope love match compatibility - it tells you if the two specific investment (say GOOG and EIX) have perfect positive linear relationship or perfectly negative (+1 or -1), but unlike love match, the negative pair is the compatible pair for your portfolio (for diversification purposes). Moreover, MPT has been deep down and thorough in determining optimized portfolio by using these statistical tools: Alpha, beta, standard deviation or the calculated unsystematic risk, R-squared and Sharpe ratio. Good thing, you don’t have to bother yourself in gruesome statistical computations. Macroaxis is always willing to help for you to have your very own optimized and modernized portfolio